Investment markets are off to a rough start in 2022. Both stocks and bonds have declined as investors grapple with several concerns. Due to the reopening, supply chain issues have crimped the availability of goods. Energy prices have surged. It is widely expected that the Federal Reserve will raise interest rates several times in 2022 to help quell inflation. This has caused powerful sector rotations with reopening stocks like energy and financials holding relatively firm while high-growth, high multiple companies, have declined.
Investment jargon defines a “correction” as a decline of 10% or more from recent highs. On Monday morning, the S&P 500 dropped through that level for 2022. High-growth stocks, many which benefited from the pandemic, lost even more. The NASDAQ, which contains many of these, entered a correction falling over 14% for the calendar year.
Just as the selling became more frantic, with the Dow failing over 1,000 points, equity markets staged a comeback. By the end of the day, the Dow clawed back the morning losses and closed higher for the day. This shows the peril of reacting to day-to-day movements rather than one’s long-term objectives. Bear in mind that this is not over. This situation remains fluid and more volatility is likely.
There have been few places to avoid the declines. Bonds often benefit from a “flight to safety” when equity prices drop. But not this time. Given the expectation of the Fed raising rates, bond prices have also dropped. However, the decline has been modest relative to the decline in equities. The Barclays Aggregate, a measure of the overall bond market, moved down only about 2%, providing some ballast to portfolios.
Is this cause for concern?
We are always concerned by anything that affects the portfolios of our clients. As always, perspective is in order. Periodic declines known as “draw-downs” are historically part of investing. We believe that our respect for market history and keeping a healthy eye on risk, are advantages to our process. As the 34% decline in three weeks in March of 2020 fades from most people’s memories, the pain of volatility is often forgotten. This is not our approach.
Examining the data over almost 100 years shows that declines occur quite often. On average, there have been about three 5% declines in the equity market per year. A 10% decline is still relatively common, occurring about once every 12 months. A 15%+ decline has happened every three years, on average. This is the risk investors assume for a higher return over time. The key is to measure the risk carefully and in advance in designing your portfolio so the inevitable declines, while unpleasant, are manageable. That is at the core of our process.
What should we do?
First, let’s look at what we have already done. Your portfolio was built with a thorough knowledge of risk and a knowledge of you. We understand it is more complicated than the returns of the past. It is about you. We built your portfolio with diversification that seeks to avoid concentrations that can amplify risk. It is a foundation designed to help weather declines when they come.
We believe the most important thing to do now is to stick to our principles and maintain perspective. We have been through far worse than this. The covid pandemic that swept through the world and markets less than two years ago provides an excellent example. In about three weeks, markets were hit by a swift and bruising decline. Many market participants apparently decided to sell first and ask questions later. You deserve better than that. Together, we remained calm and fought the understandable urge to make dramatic shifts in the face of great uncertainty. Markets recovered quickly and dramatically. While this decline will likely be different than previous ones, the principles in dealing with them remain the same.
We are here.
We are certainly not taking this lightly. We feel our commitment to you even more strongly in times like these. Communication will be key as we navigate the next few weeks. We have been through many of these events before and we will get through this one. We are here to go over your portfolio, provide our thoughts or just listen.