During a Challenging Year, Remember the Basics

With Q3 in the books, the year hasn’t been smooth for global stocks, which are down -9.2% year to date in Sterling and much more in dollars.^[i] UK stocks, which have been in a correction (sharp, sentiment-fuelled decline of -10% or worse) since April, are also having a rough ride.^[ii] In our experience, frustration can often motivate investors to act as doing something, anything, can feel like taking back some control in an uncomfortable situation. However, we think such urges can easily be counterproductive. As challenging as this year has been, reacting to the past is one of the biggest risks investors can take, in our view.   

Global stocks’ path has been bumpy and included some steep pullbacks and rebounds. A volatile winter—world stocks fell -11.2% from early January through early March before rebounding 11.1% to close out Q1—gave way to a springtime correction of -13.7%.^[iii] Stocks then rallied through the summer to mid-August before sliding anew in September.^[iv] 

During bouts of volatility, we think investors seeking long-term growth benefit from going back to the basics. Yes, we know popular investing adages that preach patience or sticking with it may sound obvious and tired to many, but we don’t think that makes them unwise. In our view, the things one doesn’t want to hear can still be right, important and smart. Here are a few such concepts, based on our experience: One, don’t exit stocks because of what has already happened. Selling during downturns locks in losses, and if you are out of the market when a recovery begins, we think it becomes much harder to recoup those losses. You could then be fighting equal and opposite emotions that want to keep you sidelined to mitigate additional potential declines. It is a recipe for potentially missing a recovery, in our view. Our research also shows avoiding negativity isn’t essential to earn markets’ long-term returns. For example, the US-orientated S&P 500, which we cite here for its long historical data set, has an average annualised return of 10.3%—and that includes all the bear markets (typically prolonged downturns due to fundamental causes) from 1926 – 2021.^[v] In our view, if you seek growth commensurate with stocks’ long-term results, earning market-like returns is a critical component in reaching your long-term investing goals.

Also critical, in our view: making investment decisions based on what lies ahead, as our studies have shown markets are forward-looking. Given we think stock prices move most on the gap between expectations and reality, we think investors benefit from weighing how sentiment aligns with economic and political fundamentals. Based on what we have observed, moods today are extremely dour as sentiment surveys of investors and consumers point to rampant pessimism. Now, by no means are we saying things are uniformly positive. We also don’t dismiss headwinds from elevated inflation and high energy costs in particular, which could very well hinder growth in parts of the global economy.

But we also see signs reality isn’t as poor as many market analysts we follow argue. Take the New York Federal Reserve’s Global Supply Chain Pressure Index, a measure that aims to gauge supply constraints across several major global economies, including the UK, eurozone, US and China. Whilst still at historically high levels, it has been trending downward for the past four months—suggesting global supply chain pressures, one of 2022’s biggest worries based on financial publications we monitor, have been easing.^[vi] We think politics may also prove a tailwind as we move into Q4 and into 2023. A big reason: the US midterm congressional elections provide a big source of falling uncertainty, and in our view, this can be a key driver of global returns since America makes up nearly 70% of developed-world stock markets and US markets typically have a strong correlation with non-US developed-world markets.^[vii] Though just one factor, it is worth weighing for global investors, in our view. Finally, negative volatility doesn’t beget more negative volatility, as past returns never predict, in our view. Whilst many investors wrestle with emotions shaped and coloured by the recent past, we don’t think that will help you foresee what is ahead.