Volatility is back: 5 things to know
Joel Dresang: Dave, 2017 was an extraordinarily calm year on Wall Street, but then 2018 started and we had a return of volatility with weekly swings of a thousand points or more on the Dow Jones industrial average. What are some of the lessons that you hope that investors could be reminded of as volatility returns?
Dave Sandstrom: Beware of recency bias, Joel. It’s human nature for us to get used to what’s just been happening and then expect that to continue into the future. So when we come off of this relative calm like we saw, and then all of a sudden the things get bumpy out there, it can upset investors, and what that typically does is forces them into making bad decisions.
Joel: During that lull, we’ve seen a greater influx of investor money from actively managed funds to passive index funds. How do you expect that to play out as volatility returns?
Dave: I think investors should stay active, Joel. While there’s a place in the portfolio for passive index funds, I think at this point in the cycle, especially as volatility starts to pick up, there’s an opportunity for good managers to find mispriced stocks and mispriced companies within the market. So while we want to have a little bit of balance there, I think at this point in time, active management has a real place in the portfolio.
Joel: The return of volatility means more ups and downs, more of a roller-coaster ride. How does that affect the outlook for investments?
Dave: Joel, I don’t think that the outlook is affected by the volatility per se. I think you need to focus on the fundamentals. Remember that it’s all about earnings and interest rates. And while this volatility has a tendency to introduce those two things that are our worst enemy – fear and greed – we have to be careful in those deep sell-offs not to get afraid and sell out at the absolutely worst time. And we also have to be careful about seeing the markets go higher and higher, have that fear of missing out, and then buy in at the absolute top.
So the fundamentals are critical here. Corporate earnings have been strong. The forecast going into the future is optimistic. Interest rates, from a historic standpoint, are low at this point in time. So, stick to the fundamentals.
Joel: What about stock prices? Of course, the correction in late January, early February made prices go down a little bit, but historically stock prices are still high, right? What message does that give?
Dave: Joel, I don’t think it’s going out on a limb to suggest that we are much closer to the end of this bull market than we are to the beginning. And while markets don’t just die of old age, I think it’s time to be cautious.
So remember why you own stocks in the first place. It’s for long-term money. This is not money that you need next week, next month, next year. This is to provide your portfolio with long-term growth.
Joel: Dave, what’s the biggest thing that you’d recommend investors do now that turbulence has returned?
Dave: Stick to your plan, Joel. And if you don’t have one, it’s time to develop one. And what I mean by a plan is developing a mix of assets that’s appropriate for your situation, making sure that you have the appropriate amount of stocks, bonds, real estate, commodities in the portfolio, so that it fits with your plan.
And then, when we go through these times of extreme volatility, look for those opportunities to rebalance, to get back within your plan.
That gives you the chance, then, to sell assets when they’re expensive and then repurchase them when they’re cheap. And by sticking to that plan and that discipline, that takes the emotion of fear and greed out of the equation.
The ups and downs of volatility, a Money Talk Video with Steve Giles
The role of active investment management, a Money Talk Video with Marc Amateis
Stocks: Long-term, consistent returns, a Money Talk Video with Dave Sandstrom
5 things to do when stocks aren’t cheap, a Money Talk Video with Marc Amateis
(initially posted March 15, 2018)