Some Random Thoughts on a Big Down Day in the Stock Market

Here’s what I’m thinking about after watching the stock market fall more than 7% today:

The S&P is now down nearly 19% in just 13 trading sessions. These losses aren’t astronomical in a historical context but they’ve happened so quickly that I’m willing to call this a market crash. The problem with market crashes is it always feels like it’s too late to sell but too early to buy.

“Waiting for the dust to settle” is not a legitimate investment strategy.

“What do I do now?” is not a fun place to be either?

This was the 20th worst daily trading loss in U.S. stock market history (going back to 1928).

The reason is always different when stocks fall but the reasons shouldn’t matter. Every investor should always prepare for the fact that sometimes stocks fall a lot in a little amount of time. Risk is easier to predict than returns when it comes to stocks.

The average peak-to-trough drawdown in the S&P 500 since 1950 is -13.4% (more on this tomorrow). This year’s 19% plunge is worse than average but certainly not outside of the historical experience in stocks.

A 60/40 U.S.-based portfolio (made up of SPY and AGG) is down about 6% on the year in 2020. Not a favorable result but not the end of the world either. Things could always get much worse.

Oil prices dropped 25% today and were down upwards of 30%. For one of the world’s most important commodities that’s an astronomical move. The reverberations of this move will be felt for a long time for many different industries and companies.

The last couple of weeks felt like a relatively orderly sell-off all things considered. Today felt like an overreaction. There are no counterfactuals but I wonder what the reaction would have been to oil prices falling 30% in a day if we weren’t in the midst of a global pandemic. Maybe it doesn’t matter and sometimes people panic and sell because that feels like the right move for them. And investors could certainly overreact even more from here. I would never rule that out.

Bond yields continue to crash nearly as fast as the stock market. Fixed income remains the most consistent hedge against a crashing stock market.

These are the days when you don’t need financial advice, you need a psychologist. This is why managing people is always more important than managing investments when you work in the financial services industry. Anyone can build a portfolio. Not everyone can stick to a plan.

Risk management during a market meltdown comes from having enough liquid assets on hand or a high enough savings rate so you aren’t forced to sell your risk assets (read: stocks) during market crashes or corrections.

Days like this are why IQ can only take you so far in the markets. It doesn’t matter how smart you are if you don’t have the right temperament to keep your wits about you when things go haywire.

No one learns what type of investor they are when stocks are rising. Everyone learns what type of investor they truly are when stocks are falling.

Research by people like Kahneman and Tversky on loss aversion shows losses make us feel worse than gains make us feel good by a factor or something like 2.5-to-1. I think those numbers are severely understated when talking about big losses. Last Monday stocks rose by nearly 5%. Today they fell nearly 7%. Today’s losses felt 10x worse than last Monday’s gains felt good for most investors.

I bought stocks today and not because I’m trying to buy the dip or catch the bottom. I bought stocks today because I buy them every single month at this time and will continue to do so. Buying as stocks are falling rarely feels right but this is what we are supposed to do as investors. I have a few decades ahead of me and will be a net saver for years to come.

I realize context doesn’t always make investors feel better. Some people feel better selling out, even if it’s done in a panic. Other’s simply look away and try not to pay attention. Still others decide to change their strategy mid-stream to find something else that’s working.

My only suggestion for today is to make sure you have a plan, even if it’s a suboptimal plan. No one survives this type of volatility without a plan in place. Even a suboptimal plan is better than nothing because at least it gives you some rules and guidelines to follow.