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March 2022 E-Newsletter: Market Volatility Discussion

Jonathan M. Gardey, MBA, CFA®, CFP®

President and Chief Executive Officer

Market Volatility Discussion

The recent gyrations of the stock market may have some investors feeling queasy. After the pandemic-induced crash in 2020, investors may have less tolerance for volatility. But those who don't think they can manage another roller coaster ride should think twice before jumping off now.

First, investors who try to jump in and out of the market to avoid volatility actually create more of it in their investment portfolios.

Secondly, if you have a long-term orientation for your investments, volatility is actually a good thing because it's what creates returns. By trying to avoid it, you'll miss out on the biggest returns in the market.

Let us explain. 

What Exactly is Market Volatility?

First, it's important to dispel misconceptions about market volatility. Many investors associate market volatility with risk, but they are entirely different. Volatility is a measure of the degree to which stock prices fluctuate. During periods of volatility, stock prices can swing unpredictably and sometimes wildly, up and down. During 2021, we saw very few periods of market volatility—it was mostly a smooth ride. 

On the other hand, market risk is the chance that stock prices will decline, creating the possibility you could lose money. Of course, it’s only a possibility.

Now, some stocks are considered riskier than others. This is because they tend to be more volatile over time. Investors take on that higher risk for the possibility of higher returns. In that sense, risk and returns are very much related. But investors also must be able to withstand the stock's volatility. 

What Does Extreme Market Volatility Mean?

Extreme market volatility can occur at any time due to a number of factors, including macro-economic events (rising inflation), changing government or tax policies, a banking crisis, or even investor attitudes about current market conditions (stocks are way overvalued). If for any reason, investors sense that the risk of holding stocks outweighs the potential upside, they will start to panic sell.

Generally, periods of high market volatility are associated with a declining market. Market sell-offs can trigger an avalanche, sending stock prices down much faster than when they're going up. So, periods of lower volatility tend to be associated with rising stock prices. 

Why Volatility is not Necessarily a Bad Thing

Undoubtedly, we have seen some severe stock market volatility in recent years. But it's essential to put that in perspective. In each year since World War II, the market has experienced an average intra-year decline of 14%. However, the market only actually ended the year lower every third year during that same period. 

Bear markets have only occurred every fifth year, averaging less than 30 percent. But that hasn't prevented the stock market from growing nearly 3000-fold since 1950. Put it this way: a $100 investment in the S&P 500 at the beginning of 1950 would have grown to nearly $272,500 at the beginning of 2022, assuming the dividends were reinvested. That is an annual average return of 11.6% per year.

The critical takeaway is that market declines, regardless of how steep, have been no more than a temporary disruption of a more enduring market advance. In that regard, volatility acts as a sling to propel the markets higher. 

History shows that the market rewards those who can withstand market volatility and avoid the behavioral mistake of selling amidst a market decline.

Remember, when the stock market turns volatile, the most significant risk to investors is not a declining market, but how they react to them.

The instinct to abandon the market, triggered by the fear of losing money, can be overpowering. But the historical data shows that those who try to avoid the worst days of the stock market invariably miss the very best days of the market sitting on the sidelines. Moral of the story? Their investment performance suffers. 

Consider this graphic from Fidelity Investments, which shows how your returns would have been impacted on a $10,000 investment if you missed the market's 5, 10, 30, and 50 best days over the last 39 ¼ years. 

Fidelity Investments. Missing Out on Best Days Can Be Costly.[i]

For example, in 2020, there were two days that saw more than a 9% gain in the S&P 500. Both market bursts occurred during the steep, COVID-induced market downturn. The first 9%+ gain occurred on March 13, one day after the second-worst return day in two decades. The second 9%+ gain occurred the day after the market hit bottom on March 23. Both days were among the top ten return days in the market's history. 

In the months to follow, the market rebounded 40% from the March bottom. However, if you managed to miss the five best return days during that rebound, your portfolio would have lost nearly 30% -- proof that time in the market, not market timing, is the key to positive long-term returns.

Learning to Embrace Market Volatility

Investors who are suddenly spooked into abandoning the market after it has already fallen 30 percent will permanently lose money. Getting that loss back can be challenging, because when you decide to jump back in, you'll need to generate a return of 43 percent to get back to where you were. It is better to ride out volatility and take advantage of the upward market bursts it can produce. 

Here's what you can do to better withstand a bout of severe volatility:

Make sure your investments are properly diversified:  Optimally diversified portfolios tend to decline at a slower rate than the market indexes. The key is choosing investments with low correlation with one another and the stock market as a whole.

Stay laser-focused on your long-term objectives: When the market whipsaws around, there is no benefit in wringing your hands over something that will have little if any impact on the long-term performance of your investments. Stop paying attention to the media and your investment accounts and focus on your long-term investment strategy. 

Learn patience and discipline: Investors make their most costly mistakes when the market turns volatile, such as selling into a steep decline or trying to time the market. Mistakes like these can cost you a significant portion of your portfolio value, which can be difficult to make up. Keep your emotions at bay and stick to your strategy. Since its inception, the stock market has always rewarded patience and discipline. 

If you are in need of a financial ally we encourage you to visit our site, learn more about our services, and see if we could be a good match.  We best serve clients looking for exceptional client service, who value a long-term partnership, and have a minimum of $500,000 in investable assets.

Important Disclosure Information

Gardey Financial Advisors Disclosures

Please remember that past performance may not be indicative of future results.  Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product including the investments and/or investment strategies recommended or undertaken by Gardey Financial Advisors (“Gardey”), or any non-investment related content, made reference to directly or indirectly in this commentary will be profitable, equal any corresponding indicated historical performance level(s), be suitable for your portfolio or individual situation, or prove successful.  Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. Moreover, you should not assume that any discussion or information contained in this commentary serves as the receipt of, or as a substitute for, personalized investment advice from Gardey. Please remember to contact Gardey if there are any changes in your personal/financial situation or investment objectives for the purpose of reviewing/evaluating/revising our previous recommendations and/or services, or if you would like to impose, add, or to modify any reasonable restrictions to our investment advisory services.  To better understand the nature and scope of the advisory services and business practices of Gardey, please review our SEC Form ADV Part 2A, available via the SEC's website @ www.adviserinfo.sec.gov. (Click on the link, select “Investment Advisor Firm,” and type in the firm name. Results will provide you both Part 1 and 2 of the Gardey Financial Advisors Form ADV.)  Statistics from third-party sources are deemed to be accurate but have not been confirmed by Gardey.

This communication is for informational purposes only and does not purport to be a complete statement of all material facts related to any company, industry, or security mentioned.  The information provided, while not guaranteed as to accuracy or completeness, has been obtained from sources believed to be reliable.  The opinions expressed reflect our judgment now and are subject to change without notice and may or may not be updated.  Past performance should not be taken as an indication or guarantee of future performance, and no representation or warranty, express or implied, is made regarding future performance.  Readers who are not market professionals or institutional clients of Gardey Financial Advisors should seek the advice of their financial advisor before making any investment decisions based on this communication.  Our firm does not render legal, accounting or tax advice. Gardey Financial Advisors works closely with our client’s other professional advisors.  Readers who are not market professionals or institutional clients of Gardey Financial Advisors should seek the advice of their financial advisor, tax, or legal advisor before taking any action that may have tax consequences.

[1] Hypothetical growth of $10,000 invested January 1, 1980 to March 31, 2021. The hypothetical example assumes an investment that tracks the returns of the S&P 500® Index and includes dividend reinvestment but does not reflect the impact of taxes, which would lower these figures. There is volatility in the market, and a sale at any point in time could result in a gain or loss. Your own investing experience will differ, including the possibility of loss. You cannot invest directly in an index. Past performance is no guarantee of future results. Source: FMRCo, Asset Allocation Research Team, as of March 31, 2021.