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Stock Market Paths, Pull Backs, Poor Memory, and what’s Normal?

This month’s Blog post comes to us from Stephen Reh, an adviser in Southern California who I’ve known for some time. I think it’s a good one and timely for Halloween.

Have you ever had a moment when you look back on memory such as a vacation and think “that was one of the best trips I can remember”? Then you mention what a great vacation it was to someone who was with you and they remind you that you had food poisoning, lost your luggage, and you called the trip the worst trip of your life. For whatever reason, the memory of that trip years later, you had forgotten about some of the negatives of that experience. Sometimes looking back on stock market returns, we forget about those moments on our journey to reach our investing and retirement goals.
Do you remember when the stock market dropped 16% off its high in 2010?! What about when the stock market lost 19% of its value in 2011? You don’t? I am not surprised. The S&P500 gained 13% in 2010 and ended flat in 2011. When we look back at market returns we forget the path it took to get there.

Why is it Important to Remember These Stock Paths

It’s important to remember the journey so that we don’t make mistakes along the way. Going to cash in 2011 after the drop on news of Greece would have lost investors’ money even though it “felt” right at the time. Every year the market gives us the opportunity to panic and deviate from our long term investing goals. Since 1980, the average intra-year drop of the stock market is 14.2% and despite that, the market annual returns have been positive in 27 of those 36 years. Even in 2016 we saw an 11% drop and yet we are still sitting at a 6% price gain for the S&P500 through 9/30/16. Not to mention since the “Brexit” vote, international investments have done well. The point is that when we are facing challenges in having faith that the market will do well, we should remember the challenging times we have been through.

“A Broken Clock Is Correct Twice a Day”

At some point when the market loses 10%, someone will ask “Is this the start of another 2008?” My answer usually is “unlikely but possible”. Pullbacks are similar to the boy who cried wolf. Every year we will have a decent sized pull back and each time it will feel like the start of a major stock market correction but most times, the market bounces back. Generally speaking, we don’t know when, by how much, or if it’s just the start of a larger market correction. If we go by the statistics, it will generally average about 14% and more times than not, the market will end up being positive for the year. Sure, we will have years the market ends up in the red and sometimes by a lot (2008), but if we attempt to predict the next major market crash, we will likely be wrong more times than right. The old adage “ a broken clock tells the correct time twice a day” would apply to predicting market crashes.

There Will Always be Good Reasons for a Pull Back

There will almost always be good reasons for a pull back and for it to “scare” investors into thinking things will only get worse. Let’s review a few market pull backs in this most recent bull market:

  • July 2, 2010 – Market is down 16% off its high- We had the flash crash, the BP oil Spill and Europe/Greece Issues
  • October 3, 2011 Market is down 19.4% off its high – US Government Bonds were downgraded from AAA status, more European economic troubles.
  • June 1, 2012 Market is down 9.9% off its high – Euro Double Dip recession fears.
  • June 24 2013 – Market is down 5.8% off the high – “Taper Tantrum” – interest rates spike as fed “tapered” the amount of money it was putting into the economy.
  • October 15, 2014 – Market is down 7.4% off its high – Global slowdown fears and Ebola virus outbreak fears drive market down.
  • August 25, 2015 – Market is down 12.4% from its high – Global slowdown fears, China growth slows, and uncertainty on Fed raising rates.
  • February 11, 2016 – Market is down 13.3%from its high – Oil prices have collapsed, US recession feared, more slowing in China’s economy.

The path since 2009 has been rocky but those who did not panic have been rewarded. At some point, we will likely have a recession or a large market correction but remember all these false alarms we have made it through.

View Pullbacks as Part of a Healthy Market

Market pullbacks serve a very important purpose. It reminds investors there is risk in investing. If the path was always smooth sailing, we would see “irrational exuberance” and investors might forget the risks of investing.

So when you see the market drop 12% off its high next time, recognize:
1) That’s just another normal year
2) The market is staying healthy by reminding investors that investing involves risk
3) Lastly, more times than not, it will be temporary.
4) We might have a bigger drop but it will be nearly impossible to predict. We are rewarded for taking this risk and staying the course.

The source for many facts and figures can be found in JP Morgan’s Guide to the markets found here.

Stephen Reh CFA, MBA, CFP® is a financial planner in Southern California. Steve founded www.investwithsteve.com and Reh Wealth Advisors LLC in 2010 to provide fee only asset management and financial planning. If you are in the Southern California area looking for financial planning or investment advisory services, give Steve a call.

Author Michael Garry Yardley Wealth Management

Michael Garry is a CERTIFIED FINANCIAL PLANNER™ practitioner and a NAPFA-registered Financial Advisor. He is a member of the National Association of Personal Financial Advisors (NAPFA) and the Financial Planning Association (FPA).

More posts by Michael Garry Yardley Wealth Management