Here is a headline about what happens after a bull market:
And here is a headline about what happens after a bear market:
Both of these pieces were written by the Wall Street Journal’s Jason Zweig.
The bull market piece about ARK came out a little more than a year ago not long after the fund had seen spectacular returns. The bear market piece about covered calls came out this past week after that strategy outperformed last year.
The details from each piece do a nice job of explaining the psychology behind what happens following both good markets and bad markets.
Not every investor does this but there is a tendency to invest money into the speculative stuff only after it rockets higher during a bull market and invest money into the defensive stuff only after it protects capital during a bear market.
Here’s Zweig on how ARK’s performance impacted flows following the massive returns the fund experienced in 2020 and 2021:
In its first two full years, 2015 and 2016, ARK Innovation gained less than 2% cumulatively. Then it took off, rising 87% in 2017, 4% in 2018, 36% in 2019 and 157% in 2020.
Yet, at the end of 2016, the fund had only $12 million in assets—so its titanic 87% gain in 2017 was earned by a tiny number of investors. By the end of 2018 ARK Innovation had only $1.1 billion in assets; a year later it still had just $1.9 billion.
Only in 2020 did investors begin buying big-time. The fund’s assets tripled to $6 billion between March and July 2020. From September 2020 through March 2021, estimates Morningstar, investors deluged ARK Innovation with $13 billion in new money.
Right on cue, performance peaked.
In other words, the performance was magnificent, then tons of money poured in at an unbelievable pace, then the performance was terrible.
Unfortunately, this tends to happen to style-hopping investors.
The market or some investment strategy goes up a lot and you invest in that thing that did really well in hopes that it can have a repeat performance.
Or the market goes down a lot and you invest in the thing that did really well in hopes that it can protect you once again.
Here’s Zweig again on the money flowing into covered call strategies, which softened the blow of the bear market in 2022:
Last year, JPMorgan Equity Premium Income ETF lost 3.5%—far outperforming the dismal 18.1% decline in the S&P 500. As technology stocks tanked, the Global X Nasdaq 100 Covered Call ETF lost 19%—much less than the 32% dive in the Nasdaq index itself.
The prospect of getting most of the market’s upside, less of the downside and big steady dividends along the way sounds like an investing paradise.
No wonder the JPMorgan fund took in $12.9 billion in new money last year—the biggest annual haul for any actively managed ETF ever. Three covered-call funds from Global X, linked to the Nasdaq-100, S&P 500 and Russell 2000 indexes respectively, attracted a combined $5.2 billion in 2022. So far in 2023, approximately $3 billion more has flowed into these four funds alone.
Following the 2008 financial crisis and market crash, I sat through dozens and dozens of investment presentations from funds pitching the next big short or Black Swan protection.
Everyone was so concerned with fighting the last war that they missed the fact that the stock market had fallen nearly 60%. The real opportunity was the big long, not the big short.
I’m not saying either of these strategies are good, bad or otherwise. It all depends on what you’re looking for as an investor.
There can be a place for a high-octane strategy in your portfolio or an income-seeking strategy that looks to dampen volatility.
The problem is it’s not a great idea to chase the high-octane strategy only after it goes to the moon. It’s also not a great idea to switch over to the volatility dampener only after the bear market has already mauled your portfolio.
If your investment strategy relies on constantly putting your money into strategies you wish you would have invested in prior to a big move in the market you’re always going to be playing from behind.
There’s a reason it’s buy low, sell high and not the other way around.
I’m sure there are investors out there who can consistently move from one investment style to the next. I don’t know any of them but they have to exist.
For those of us who aren’t the next Jim Simons, it’s much easier to pick a reasonable strategy and stick with it come hell or high water.
Sticking with a long-term investment strategy isn’t very sexy but it gives you a much higher probability of success rather than trying to pick the thing that’s going to work in the next market environment.
If your strategy consists of buying what you wish you would have bought before it performed really well that’s a recipe for disaster.
A Short History of Chasing the Best Performing Funds