Don’t Let a Good Correction Go to Waste
“Only when the tide goes out do you discover who’s been swimming naked.” - Warren Buffett
That sinking feeling in your stomach is normal – when stock markets gyrate, and red numbers show upon your statement, it’s natural to want to sell and run to the exits. Our instincts have served us well for survival, but not so much for how we manage our own money. That’s part of the reason why market sell-offs even occur, as the cycle from greed to fear plays out time and time again.
Market fluctuations are normal. While the path to wealth over time in stocks has been great, there are frequent bumps along the road – 10% corrections almost annually, 20% every four years and 30% or more once a decade, are all typical detours to expect along the way. Markets do tend to correlate with the growth in business profits over time, but over- and under-shoot regularly.
Why? As legendary value investor Benjamin Graham once said, “In the short run, the market is a voting machine, but in the long run, it is a weighing machine.” As economies grow and businesses generate more profits, the stock market gives credit where credit is due by valuing businesses higher – but in the short run, markets are at the whim of the often-fickle sentiment of the market participants (which by the way, has become less human and more computer-driven in recent times). And when the headlines are negative (trade wars, global slowdown, politics, etc.), the markets get nervous, and can go down in a hurry (a la Christmas Eve 2018)!
So, what do we do about this? Remember, at the beginning of 2018 we talked about preparing vs. predicting – we didn’t know that the market would correct in 2018, but our intuition was that after several years of strong performance, a correction could become more likely at some point in the future (reminder: see the correction frequency mentioned above). That was when it was time to pull in the reins – by trimming stocks back to your respective long-term strategic allocations while maintaining your long-term risk exposure. Remember, it’s a marathon, not a sprint; however, doing these prudent exercises at the appropriate times will help keep you on the right path.
That was then, so how about now? While the media might instill panic and fear at times, that’s actually the right time to go against the grain a bit. Markets can still go down from here (remember, the “voting machine” still prevails in the short run, and there are always plenty of risks on the horizon), but as buyers of stocks we strive to find great quality investments that have sold-off while the whole market was in free fall.
As it relates to bonds, we have always felt that it is important to maintain an allocation to this investment class to minimize the impact of stock market swings and/or provide stable cash flows. The amount you hold is commensurate with the level of priority these objectives hold. Now, as always, we feel it is important to focus on top-quality bonds from stable issuers as this is the part of the portfolio that should be expected to play some defense. While the bond market is not completely immune to occasional short-term price swings, we focus on the total return from purchase to final maturity, as we anticipate the principal to be returned and the interest payments to be made along the way. It may seem a little bit boring, but that may actually be exactly what you want when the stock market is providing all the entertainment, as it has lately.
Rest assured, we spend a lot of time thinking about the markets and the investments we own. The first priority is to ensure the right balance of risk in your portfolio (hence the Investment Policy Statement), then we must make sure everything we buy meets our strict quality standards. At the end of the day, it is best to be proactive rather than reactive, and that’s what we’ll continue to do for our clients.
We want to wish you and your families a healthy and prosperous New Year. Please feel free to send us a message or give us a call anytime. We’re standing by to be your guide through anything the market sends our way.
Norris, Perné & French