5 questions to ask before reacting to the market downtrend

March 4, 2022 by admin

Investors are struggling to put their finger on what has changed about the stock market of late.

Yes, there’s war, the highest inflation we’ve seen in 40 years, the persistent promise/threat that interest rates are rising and more. Those economic and geopolitical events have driven the market down by more than 10 percent this year, putting it in “correction” territory.

But the market is forever dealing with headlines like that, and while it hasn’t faced either war or high inflation in the immediate past, there are decades of history to show that this is par for the course, though perhaps at the unusual edge of “business as usual.”

Bearish sentiment as measured by the American Association of Individual Investors recently reached a nine-year high and is likely to keep rising, but even those feelings and emotions aren’t different. They come up every time the market is struggling.

No, what is different about the stock market right now is hard to spot amid the headlines and newscasts.

It’s the long-term trend.

Investors know, both intuitively and from past experience, that markets get squirrely during downtrends, facing higher volatility and big drawdowns.

Once the market enters downtrend conditions, it can wipe out years of gains in a heartbeat, with the Covid-crash of March 2020 – when the market lost nearly one-third of its value over just 22 trading days – being the most recent example.

The Standard & Poor’s 500 moved below its 200-day moving average – generally considered a solid indicator of the stock market’s long-term trend – in mid-February, and it looks like it will stay there for a while.

Of course, trend lines sometimes create false signals or react to a head fake from the market; any trend trader – and that’s definitely not the way I invest, though I watch market trends – can tell you horror stories of mis-reading the charts and graphs.

Generally speaking, when times get tough and investors are deciding what to do, they should look at what has changed, noting that there are three main areas to consider: the market, the specific investment or the investor’s unique circumstances.

As an investor ages, amasses more money, has job security or insecurity, has more or fewer dependents and more, how they handle money changes. For most people, the portfolio they have as a 30-year-old would not be a great fit when they reach age 60, not necessarily because the investments are bad but because their lives have changed.

Likewise, if an investment itself has changed – new management, changing business plans and so on – it may no longer be a good fit, although it is important to note – as Bill Nygren, legendary manager of the Oakmark Fund recently did on my podcast, “Money Life with Chuck Jaffe” – that the events going on in the world today are not likely to meaningfully impact the long-term value of individual businesses. Current events will simply influence the price of those companies.

But when people believe the market itself has changed, that’s when investors must be cautious about over-reacting, because the market is always in flux.

To guard against doing too much – to be sure you’re not panicking in the face of an uncomfortable but not abnormal change in the trend — ask yourself these five questions before making any move now:

Would I be doing this if the long-term trend remained positive and/or if the market wasn’t so volatile right now?

Good long-term moves typically make sense at any time, but may not feel good when the market is ailing. Buying undervalued stocks after they have been hammered by the market can be tough, even though purchasing securities that the market has put “on sale” should pay off in the long run.

The market’s current issues have brought valuations down, but investors need to be careful about proclaiming the troubles over any time the market has a good day or two.

Brian Dress, director of research at Left Brain Investment Research, noted recently that we are unlikely to see a V-shaped bottom to the current decline; while he sees the green shoots of a potential recovery showing, he cautioned against seeing every drop as a buying opportunity.

Successfully timing the market is hard, and it’s not a one-shot deal; you need to be able to pick the right spots to get out and back in, and messing either side up can be costly.

If your only reason for making a move is because it feels good now, there’s a good chance it won’t feel great later.

Should I have made this move when markets were calmer?

There’s plenty of reason to consider allocations to gold, cryptocurrency, bear-market funds, real estate, alternative investment classes/strategies and more right now, but consider why you didn’t buy those things heavily in the past, at a time when the market felt more secure and stable.

Pursuing those investments now may be more about chasing performance and/or comfort.

Is this a permanent allocation change, or a temporary market call?

There’s nothing wrong with making moves based on current events or sentiment, but average investors typically hurt themselves doing it.

Long-term allocation changes require that you are prepared to live with your new purchase even when the market turns and favors something else.

If today’s feel-good move might make you sick down the line, it’s bad medicine.

If I make the change, what’s the best that can happen — and the worst?

You are hoping for a specific outcome; quantify your expectations, but also consider what might happen if you’re wrong.

If I do nothing, what’s the worst that can happen – and the best?

Staying the course may not feel good, but examine the pros and cons of staying still every bit as hard as you weigh the costs and benefits of making a change.

If you aren’t convinced that a change to your portfolio really is worthwhile, don’t make it.

Market history favors those who, in times like these, ride it out.

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Chuck Jaffe is a nationally syndicated financial columnist and the host of “Money Life with Chuck Jaffe.” You can reach him at itschuckjaffe@gmail.com and tune in at moneylifeshow.com.