The first four weeks of 2022 have been a rocky start for investors, with the S&P 500 down about 10% year-to-date. The decline is even more pronounced for the tech-heavy Nasdaq 100, which is down about 15% year-to-date.
As painful as the decline may feel, in a lot of ways it represents a return to normal after what has been an especially strong period for stocks.
The S&P 500 finished 2021 up nearly 30% without ever seeing a sell-off of more than 5% during the year.
That’s unusual given that since 1980, the S&P 500 has experienced an average intra-year decline of 14% every year, according to data from JPMorgan.
And that’s after back-to-back double-digit gains in 2019 and 2020, so stocks have been overdue for a pullback.
Since the stock market bottomed in March of 2020, investors have been conditioned to quickly buy any sell-off that materialized. “Buy the dip,” they say.
A combination of stimulus checks and an “easy” Federal Reserve (i.e. 0% interest rates, monthly bond purchasing program etc.) buoyed nearly all pockets of the market, though some less sustainably than others.
Risk-on assets like cryptocurrencies, SPACs, and barely profitable technology companies generated mind-boggling returns solely on the idea that you’d be able to sell the assets to someone else at a higher price. That’s not sustainable.
Just two months ago, Rivian, a start-up electric truck company that delivered just a handful of cars in 2021, was worth more than Ford, a 117-year-old company that sells millions of cars every year. That’s not sustainable.
But this froth is beginning to unwind as the Fed signals that it will start to raise interest rates to combat rising inflation. High-flying stocks that were all the rage in 2020 (Peloton, Zoom Video, etc.) are down upwards of 80% from their record high.
What’s becoming clear to investors once again is that the underlying earnings power of a businesses you own matters, and so do valuations.
That’s why IWM portfolio holdings like Pepsi, Berkshire Hathaway, and Procter & Gamble, all stable and rather boring businesses, have bucked the recent sell-off and are trading near record highs.
It’s also why faster growing but less profitable holdings like PayPal, Netflix, and Nvidia are down significantly from their 2021 highs.
All of this is said not to scare, but to remind that stocks are risk-assets that can experience violent downside volatility in the short-term, but that is necessary to generate wealth in the long-term. It’s the price of admission.
If 120 years of market history is a guide, the current volatility in stocks represents an opportunity for investors that have a time horizon longer than a few days, weeks, months, and years, because things don’t look nearly as bad as they may seem.
US economic growth in the fourth quarter was 6.9%, surpassing estimates despite the spread of Omicron. For all of 2021, GDP growth was 5.7%, representing the fastest year of economic growth for the US since 1984.
The consumer is still in great financial shape, with wages rising and debt burdens falling. The ongoing dynamic of a strong consumer should help drive another year of record corporate earnings in 2022, thus aiding stock prices.
Longer term, demographic tailwinds driven by Millennials forming families, buying homes, and entering their peak career earning years suggests there is plenty of runway for the consumer to power the economy forward.
Stock market valuations are slightly above average, but they’re nowhere near the extremes seen in previous market peaks like the dot-com bubble of 2000. Rising corporate earnings amid a decline in the stock market mean valuations are compressing, making stocks even more appealing for long term appreciation.
And while inflation is rising, recent data suggests it may have finally peaked and is set to reverse as the supply chain logjam of 2021 shows initial signs of improving.
If inflation does cool, that will give the Federal Reserve some breathing room in making a slew of back-to-back interest rate hikes, which should in turn bring some risk-appetite back into the stock market.
Finally, credit spreads between risky junk bonds and safe treasury bonds remain subdued. In other words, the bond market has not signaled that the current stock decline represents broader systemic issues that would hurt the economy (i.e. recession).
Do you know someone who would benefit from a fiduciary wealth advisor that will help them navigate the recent stock market volatility? If so, tell them about Ithaca Wealth!
Ithaca Wealth Management offers:
- $0 Account Minimums
- Low fees that start at 0.85% — fall to 0.50% over time
- Easy-to-use smartphone app to monitor your investments
- 5 trees planted for every opened account
- Investment Management & Financial Planning by a Fiduciary Advisor
Have them reach out today by calling/texting (607) 882-1434, or e-mail mfox@ithacawealth.com
But anything can happen. The future is uncertain.
Geopolitical tensions are rising between Russia/Ukraine and China/Taiwan, and the COVID-19 pandemic is not yet over, made apparent by the recent record surge in cases of the Omicron variant.
The best way to weather the uncertainty and inevitable volatility is to own high-quality businesses that are shareholder friendly via dividends or stock buybacks and have clear visibility into their future earnings power.
Directly owning quality companies you’re familiar with, like McDonald’s, Home Depot, and Apple, will help reinforce the psychological barrier that, when weak, can lead to panic selling at the worst possible time: near the lows.
Removing emotions is key to the long-term success of your portfolio. Since 2001, the average investor generated annualized returns of just 2.9% while a traditional 60/40 portfolio returned 6.4%, according to JPMorgan.
I blame human emotions, particularly fear and greed.
But these five steps can help you remove emotion from your investment decision process to better navigate the ups and downs of the stock market:
- Make sure your investment time horizon is aligned with your portfolio allocation. Stocks for the long term, bonds for the short term, and a combination in between. The average bear market lasts 18 months, which is why short term savings in stocks are risky as a market sell-off can occur right when you need the cash.
- Know what you own, and make sure it’s high quality. It’s ok to carve out a small portion of your portfolio to invest in more speculative assets, but only if you fully understand the risks (it can go to $0. No, seriously.), have a plan, and limit high-risk exposure to no more than 5% of your net worth.
- When it’s the right time to buy stocks, you probably won’t want to. News headlines will be overwhelmingly negative, and investor confidence will be non-existent. You can combat these emotions by setting up a recurring monthly deposit to dollar cost-average into your portfolio. Even a small amount can make a big difference over time.
- Diversify! For most people when investing, losing money feels a lot worse than making money feels good. To limit losses, portfolio diversification across different sectors, geographies, and investment factors is a must.
- Finally, reach out if you have any concerns, worries, or questions! A crucial part of an advisor’s job is to help you navigate stock market volatility and put daily fluctuations into perspective. Feeling uneasy? We’re here to help!
Text/Call: (607) 882-1434 or e-mail mfox@ithacawealth.com
Following these steps should help you view the inevitable spike in market volatility as a long-term opportunity rather than a short-term liability, and that will give you the right mindset to accelerate the process of compounding your wealth over time.
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🙏 Thank You For Reading
If you've made it this far, I want to sincerely thank you for reading! Please reach out with any questions or thoughts, and have a great weekend!
Matthew Fox, CMT, MBA
Founder & Wealth Advisor
