2024 Reminds Investors to Avoid Short-Term Market Timing
Large-cap U.S. stocks are back to trading around all-time highs, following a bumpy summer. Readers likely remember the steep declines experienced in August, when the S&P 500 fell -8% in just 14 trading days. One day in particular—August 5th—really shook investors, with a single-day decline that rivaled volatility last seen during the 2008 Global Financial Crisis and the 2020 Covid-19 crash. The spike in the VIX (as seen below) was close to record-setting, with the index jumping to 65.73.1
CBOE Volatility Index
At the time, I wrote a column arguing that the pullback was likely tied to a sudden shift in sentiment, not a collapse of economic fundamentals. I did not foresee a bear market and believed the selling pressure would prove temporary, and I urged investors to stay patient. About two months later, we can now see what appears to be a “w-shaped” recovery outlined in green below:
2024 Year-to-Date S&P 500 Index
The sudden onset of downside volatility, which is almost always accompanied by worrying headlines, makes it very challenging for investors to tune out the noise and stay focused on long-term goals and investment outlooks. I completely understand that it’s not very satisfying to hear that an investor should do nothing in response to volatility.
But history suggests doing nothing is often precisely what an investor should do. Since 1980, the stock market has delivered a positive annual return 75% of the time, even with average intra-year declines of over -14%.4 It’s also crucial to note that the best days in the market often happen in very close proximity to the worst days, such that a decision to sell out of stocks after a major shock (like August 5th) can mean being whipsawed if the market rapidly recovers. We saw a textbook version of this in August and September.
Over time, long-term growth-oriented investors could see real damage to returns if they’re out of the market on big up days. In fact, missing just the 30 best days that the S&P 500 delivered over a 20-year period could mean giving up nearly all of the annualized return. To put this in dollar terms, $10,000 invested in the S&P 500 over the 20-year period ending December 29, 2023 would have grown to $63,637. If an investor missed the 30 best days, it would have grown to just $11,483.
Some investors may make the argument that going to cash doesn’t necessarily mean sacrificing too much on return in the current environment, since yields on CDs and short-term U.S. Treasurys can be around 5%. While true, adjusted for inflation the real return on cash is more like 2%, which doesn’t really compare to the S&P 500’s 26% return last year and roughly 20% return year-to-date. For investors with long-term goals of growth, there’s no comparison.
Bottom Line for Investors
In up markets, investors are often tempted to take bigger risks, perhaps over-allocating to stocks in hopes of generating big returns quickly. This decision-making framework can move an investor further out on the risk curve than they should be, and perhaps at just the wrong time. On the flip side, when volatility erupts and negative headlines swirl, investors often make knee-jerk, short-term market timing decisions. This often results in abandoning their long-term strategy—even if just ‘temporarily’—in favor of a more conservative approach.
The fact is, however, that both of the above sets of actions are different versions of short-term market timing, and both can adversely impact an investor’s long-term annualized return. As I often say, if your goals, risk tolerance, and cash flow needs have not changed in a time when the market is volatile, then your investment portfolio should likely not change, either.
Disclosure
1 CNBC. August 5, 2024. https://www.cnbc.com/2024/08/04/stock-market-today-live-updates.html
2 Fred Economic Data. October 1, 2024. https://fred.stlouisfed.org/series/VIXCLS
3 Fred Economic Data. October 1, 2024. https://fred.stlouisfed.org/series/VIXCLS
4 Guide to the Markets. 2020. https://am.jpmorgan.com/us/en/asset-management/adv/insights/market-insights/guide-to-the-markets/?gad_source=1&gclid=Cj0KCQjwr9m3BhDHARIsANut04YX0p-pkqDjD-hufFs4SSwC3NWr6snWI_YUumq4k-ssvp6BCbyjs3IaAqpEEALw_wcB&gclsrc=aw.ds
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