Q & A's of Market Volatility

Michael Meiners, CFP®, JD, PPC®

February 07, 2019

Market volatility is a phrase on many investors’ lips since last year. Market turmoil began in early 2018 and intensified later in the year. Back in February, we wrote an article addressing the volatility. Today, we’d like to address common questions regarding market volatility and how it affects you as an investor.

So what’s a market correction vs. bear market?

There is a big difference between a market correction and a bear market. A market correction is defined as short-term market decline of any size (some sources define it as a drop of 10% or greater).^1,2 on the other hand, a prolonged bear market is “an extended drop of at least 20% from the peak.”³ According to American Funds, this typically leads to a recession.

Why do market corrections happen?

There are countless reasons for short-term market drops, among them: severe economic imbalances, corporate debt, shadow banking (i.e. unregulated financial transactions) and more.³ A less insidious reason is that the market naturally corrects itself from levels of artificial highs.⁴ Corrections are natural, healthy & inevitable.

How often do market corrections happen?

Market corrections are fairly common. There have been six market corrections since the start of the bull market in 2009. Since 1980, there have been only four years without a market correction. Smaller market corrections occur on average 3 times a year. ³

The reason that market corrections feel bigger than they actually are can be attributed to several factors. First, if a market correction is preceded by a year with zero corrections (which, by the way, isn’t healthy), this dip in the market can feel more severe. Second, depending on how often and from which news sources you receive information, a down market can feel like the next Great Depression! Some unethical outlets overblow the severity of events for viewership, clicks and ad dollars.

Why should people stay invested during market corrections?

Remember the meme ‘Keep Calm and Carry On’? It also pays to keep calm and carry on investing Even during times of volatility, markets rebound quickly. Over time, the market is upward growing. In the table below, you will see that the market grows over time.³

Market corrections outside of a recession are short and rebound quicker than those during a recession. Average returns following a 15% or greater decline are 55%.

Why should people stay invested in a bear market?

In the same way that a square is a rectangle, but a rectangle is not always a square, a bear market is always market volatility, but market volatility is not always a bear market. Bear markets are rare outside a recession. Again, volatility in the stocks (market correction) is NOT the same thing as a bear market. Over the last 50 years, only 8 of 36 market corrections were bear markets. In addition, bear markets average 14 months while a bull market averages 71 months. This doesn’t make them any less painful. However, not staying the course and missing out on the average bull market return (263%!) can be even more painful. ³

Conclusion

You can’t prevent volatility, but you can help yourself stomach it – by having a liquidity buffer and portfolio diversification. Keep a portion of your holdings in liquid assets including cash and bonds. Combine this with a diverse portfolio that balances high-growth and high-security investments.

Call Financial Plans & Strategies today at 317-882-7675 to set up a meeting to discuss your investments and market volatility.

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