The last several weeks have been trying times for investors.
Since July 22nd, the S&P 500 has fallen sharply including large drops on August 8th and 10th. The main catalysts for this sharp decline include a U.S. debt deal that did not address the underlying fundamental issues in a satisfactory way, some weak U.S. economic numbers which may presage a double‐dip recession, the realization that there is little flexibility with regard to either fiscal or monetary stimulus, the S&P downgrade of U.S. debt, and the continuing debt problems in Europe.
There is a long list of troubles, and things may get worse before they get better. There are also many positives, including the following:
- A 28% decline in the price of oil from its recent high, which has reduced inflationary pressure and helped consumers.
- The four‐week average of initial unemployment claims declined to the lowest level since April.
- Continuing low interest rates, on both the short and long end.
- Greatly improved corporate profitability and cash flow, with increasing capital spending.
- Healthy corporate balance sheets and improving consumer balance sheets.
- A depreciating dollar which could enhance exports.
We think that the best course for long‐term investors is not to sell now. While it may be emotionally difficult, we believe it is best to stick with the asset allocation that you (and possibly your financial advisor) calmly chose which was appropriate for your circumstances and risk tolerance.
Stock prices incorporate all available public information, are forward looking and exhibit both risk and return. Selling after a sharp and sudden market decline means suffering through the market’s risk without being able to benefit from any subsequent return.
For example, there was a double‐dip recession in 1980 – 1982, with unemployment reaching a high of 10.8% while mortgage rates went above 18%. Six months after the end of the second dip, the stock market was up almost 20%.
We can’t call the market bottom with any certainty. What we do know with certainty is that institutions, investors and markets react to events. Congress may finally become serious after the S&P downgrade and work together to credibly tackle the long‐term deficit issue. Investors may look at cash‐rich companies with good earnings and lower‐than‐average valuations and eventually decide to buy. The European Central Bank has started large purchases of Italian and Spanish bonds, helping to lower rates and trying to calm the debt markets.
We certainly empathize with any distress you may have experienced due to the recent market drop. It is human nature to panic and consider selling after a steep market decline. If you are considering that, think about those portfolios which were sold at the bottom of the market in March 2009 and did not get the benefit of the subsequent recovery. Stocks have an expected positive return over time, which just became more positive with the steep price drop.
For your own benefit, avoid short‐term panic and maintain a long‐term perspective.