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Stock Market Volatility: An Opportunity or a Threat?

Tuesday, April 10th, 2018

Investing can be a tough task on many people’s emotions. It can be difficult to watch the daily fluctuation in the stock market, but the daily fluctuation actually means very little in the long term investing plan. That is the reason we tell our clients they only need to look at their statement twice a year. Once on January 1st to see the opening balance for the year and once on December 31st to check the closing balance. Everything else that comes in between is really just a bunch of noise.

The problem is the media can be so convincing about how this time it is truly different, and the market is going to come crashing down. This has happened several times even during this lengthy bull market. Examples include the Greece debacle, Brexit, the heated 2016 presidential election, and now we have the concerns over tariffs and trade wars. Short term concerns in the stock market have proven to be merely minor speed bumps in the grand scheme of investing. Even looking at more devastating events such as presidential assassinations and scandals, major recessions, world wars, 9/11 and other terrorist attacks our businesses have proven to be resilient and the market is higher today than when those events occurred.

2017 provided investors an illusion into the simplicity of investing. It was a great year as the market provided a return of approximately 20%. These came as investors were not challenged and were provided a false sense of comfort. There was historically low volatility as the intra-year decline or fall from top to bottom of the market was just 3% last year. This was the smallest intra-year decline since 1995 and is far from the average intra-year drop of 13.8%.

It would be nice if volatility was subdued, but the reality is this will not be the case for the equity market. As an investor it is important to distance the concept of volatility from the idea of risk. Risk comes with the potential for the realization of the loss of the principal. Volatility is the short-term movements in stock prices that are inevitable.

Even for those concerned that the current volatility is too much to handle, there are comforting numbers from periods which are similar to this year’s volatility. In the first quarter of this year the S&P saw movements of more than 1% in either direction on 23 days. This was nearly triple the number of days for such movements in 2017, but there have been nine other years since 1958 where the S&P has seen similar movements in the first quarter. During those years the average total return for the market was 9.6%. The bad news is if history is any indication, the returns will not come easy as volatility persisted throughout most of the years in the study.

The main concept I want to convey is that short term volatility should not concern you as an investor. The stock market is going to move up and down, but the wise investors know how to take advantage of that volatility. Our firm for example just bought a great company two weeks ago that went on sale and fell nearly 20% during these volatile days. We are not looking at where this business will be trading tomorrow, next week, or next month; but rather understand we purchased a great business at a fair price and are looking where it will be 3-5 years from now.

In short, I believe we are going to continue to see volatility in the market for the remainder of the year, but with the right businesses I believe 2018 can still be a good investment year.

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