The Market's Normal Ebb and Flow

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During the recent market decline, an investor emailed me expressing concern. He wrote, “I’ve lost $30,000 in the last week. What are your plans to prevent further losses?”

I respect his question and his concern. Market volatility can be a little unnerving—especially to those who don’t deal with it all the time. I wrote back explaining that his investments are safe, that they are of very high quality and that they are well-diversified. I asked him to think about his portfolio like a boat tucked away in a snug harbor. As the tide rises and falls, the boat rises and falls with it. However, he wouldn’t look at the falling tide and say that his boat is sinking. As long as the boat is seaworthy and properly anchored, he doesn’t worry about tide levels. It is the same with his portfolio. It will rise and fall with the market’s tide, but as long as it is built properly and remains anchored in sound investments, it will weather the changing tides and deliver successful outcomes.

Judging by much of the public reaction around recent market volatility, one might think the August market correction was abnormal. Nothing could be further from the truth. In fact, the only strange aspect of the situation is that we went so long without a significant correction.  The following chart produced from data compiled by Ned Davis Research shows what I mean. 

Using monthly data since 1869, Ned Davis looked at the frequency of market corrections. The data shows that market corrections of at least 10 percent occur, on average, every 219 days and market corrections of at least 15 percent occur every 460 days. However, up until the most recent market weakness, we had gone 810 days without a correction of at least 10 percent and 978 days of a correction of at least 15 percent.

Some might be tempted to think that going without a correction is a good thing. However, long periods of uninterrupted price gains can lead to market imbalances and lazy thinking. Periodic corrections discipline the market and keep investors focused on the quality of their decision making. Corrections can also help the market let off steam, so that adjustments to changing expectations can occur with less violent price moves.

Steven Merrell CFP®, MBA, AIFA® is an investment manager and Principal of Monterey Private Wealth, Inc., a Wealth Management Firm in Monterey.   He welcomes questions that you may have concerning investing, taxes, retirement, or estate planning.  Send your questions to: smerrell@montereypw.com.