Why it Pays Not to Panic

Written by Ryan Bouchey:

As you can imagine, the recent volatility in the markets generated plenty of questions as to what our strategy was when managing our portfolios during times like these. Some clients questioned if we should go into cash while others asked if we should be buying into the weakness. While it’s true we were able to put cash to work last week when the markets dropped almost 10% in a few short days, I’m going to present a slide below which explains why a market correction is no time to panic – aka SELL. In fact those who don’t panic are often times greatly rewarded for their long-term approach.

The chart below was generated by JP Morgan and it is an overview of the past 34 years in the S&P 500. The dot or blip on the bottom half of the chart shows the Intra-year drops of the S&P 500 Index for each of the previous 34 years while the bar graph shows what the S&P 500 Index finished for the year. As you can see, the average Intra-year drop is 14.2%!! That means that from the peak of the S&P to its low point in any given year it averages a 14.2% drop. Yet in 26 of the 34 years (76.5%) the S&P finished the year in positive territory. As investors we tend to forget the average market cycles when we’ve ridden the current momentum we’ve seen the past three years. The last market correction was in October 2011, but as you can see from the chart below the historical average for a market correction is much more frequent than that.

The recent volatility should have come as no surprise. It was impossible to predict the exact timing, but volatility happens and being disciplined is the best way to profit from the peaks and valleys of the market.

Please click on the chart below to expand.