Content provided by Kostya Etus, CLS Research/Portfolio Analyst
Increased tensions between Russia and Ukraine, as well as involvement from the West, have the public worried. With worry comes fear and with fear comes panic. As investors panic markets could tumble. But I have good news: history has shown that the U.S. market would likely recover soon after a crisis, and has a high probability of rising much higher.
Ned Davis Research (NDR) has released a study that examines 51 notable crises since 1900. The list (shown below) has many events that I’m sure you will recognize or even remember happening. Also displayed is the event date, reaction dates (date range in which the market was affected or crisis lasted), number of days in the reactionary period, and reactionary percentage gain or loss. At the far right are the Dow Jones Industrial Average return numbers after a certain number of trading days have passed: 22 days = 1 month, 63 days = 3 months, 126 days = 6 months, and 253 days = 1 year.
So, what is the takeaway from the study? At the very bottom you will notice a Mean and Median rows, they show that the average (mean) price drop for the market was -6.7% during a crisis, but this was more than reversed over the next 6 months with an average 8.9% return and more than doubled over the next year with a 13.9% return (the median stats look even better).
So, given this knowledge, why do markets continue to drop during a crisis?
- Investor overreaction – people typically don’t respond to probabilities, they instead respond to how bad something could be.
- Uncertainty – part of the market’s plunge during a crisis can be traced to uncertainty rather than any change in economic and political fundamentals, you’d expect the market to recover as that uncertainty discount is removed
So, what is the best course of action during a crisis? Remain calm and don’t sell; you could even use it as a buying opportunity. To quote Mebane Faber, CIO at Cambria Investment Management and a well-known contrarian, the time to invest in a country isn’t when the outlook is rosy but when it appears to be most miserable:
“Markets do best when their prospects improve from being horrific to being merely humdrum, there always is a crisis somewhere, and crises usually are correlated with countries whose stocks already are out of favor.”
As stated many times before, here at CLS, we follow that same philosophy of remaining calm and remaining invested in our investment strategy. That is one of the benefits we bring to our clients, behavioral coaching, and a proven way to add alpha to performance. Stay balanced my friends!