Looking Forward to the Back End

Story Highlights:

• Having booked declines of 20% or more from their peaks, major indexes indicate a bear market.
• Long-term investors face a critical juncture: Stay in or sell out?
• Historically, presidential election years deliver positive returns, most of which occur in the back half of the year.

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Watching the global stock markets drop sharply from their late 2007 highs hasn't been pleasant. Indeed, most major indexes fell below the 20% level from their respective peaks—a breach indicating a bear market. But rather than lament the past, investors should focus on the future.

This is a critical juncture. Investment decisions at this point should be made with respect to what is most likely to happen looking forward, not in reaction to what's already happened. And though it's tough to determine when a market recovery will materialize, investors seeking long-term growth will want to fully participate in the rebound when it happens.

Historically, when the markets bounce back from a period of sharp decline, the recoveries happen quickly and are usually of big magnitude. Such recoveries are also responsible for a disproportionate amount of long-term stock returns, so missing out even partially on the bounce back has big opportunity costs for investors with long-term goals.

With that in mind, it's important to remember it's a presidential election year. Presidential election years routinely start weak and finish strong. From January to May, S&P 500 returns average 1.2%, with quite a few negative numbers in there. From June to December, returns are 13%, with just two instances of negative results.

There are only three down presidential election years: the Great Depression (1932), WWII's start (1940), and the uncertainty of Bush/Gore all the way until late December (2000). And even those three negative years weren't down a lot—with returns of -8.9%, -10.1%, and -9.1% respectively.

Could the market fall another 20% from here? It could, but we feel it's unlikely—and not just because it's an election year. There are many other positives we've discussed in this space that simply don't support a continued downward spiral for stocks.

Presidential election years are typically volatile due to uncertainty. But the uncertainty eventually subsides. Once a victor is revealed, it wouldn't surprise us to see a steep recovery. Never forget how fast the market can move up or down. Though it may seem counterintuitive—especially after the last 10 months—we believe long-term investors face a bigger risk right now by being out of the market than staying in. And if you think the recent decline felt bad, just think how you'll feel if you miss the recovery. This year, an election year, we're looking forward to what the final months could hold for stocks.