*This article is brought to you by Brenthurst Wealth
By Renee Eagar*
The first weeks of August delivered fresh volatility with global markets in full selloff mode. Measures of volatility shot up by the most on record in a single day (3% drop for the S&P 500 SPX), reviving memories of past crises. Markets rebounded quickly, indicating that the backdrop is far more balanced than the initial sell-off indicated.
The recent market turmoil is not new as in the past few years investment markets have been super-volatile. First it was COVID, then the war in Ukraine and this year elections in SA, UK, France and the USA, and a whole bunch more countries add to the uncertainty.
These events have fed into a feeling of general concern about the future as the world seems to be a different place. And not surprisingly, it has caused nervous investors to take their money and run for the hills where they can safely hoard it under a rock. Safe. Undisturbed. Doing nothing.
In the real world, this happens when investors reduce their exposure to volatile stock markets and look for safety in fixed income or money market-type products. Just like the money under a rock, these funds are generally protected from wild market swings, but over the longer term they also don’t produce inflation-beating returns.
We are very much in a time that inflation is eating into every household budget, your long-term returns are suffering badly if they aren’t higher than the inflation rate, effectively it means your wealth is eroding.
The irony is that your portfolio’s long-term performance depends on volatility. Without it, stock prices cannot deliver the above inflation returns that equity markets are able to produce over a period of 20 or more years.
The simple answer to overcoming the ups and downs of the markets is to stay invested for the long term. This means that you need to ignore the short-term noise and distractions that lead people to panic or be guided by their emotions.
The best way to avoid losses when markets get choppy is simply to do nothing. Keep a calm head and recognised that you need to sit through the bad times to enjoy the good times.
Source: Ninety One
The above graph illustrates clearly how your wealth erodes if you try and time the market having been disinvested on in the best 10, 20 and 40 day periods, this is a significant difference when it comes to wealth creation.
But before we move on, I want to quickly explore whether markets have actually been as volatile as they seem.
Perceived versus actual volatility
There’s a very handy measure of market volatility that’s casually known as the VIX – which is the abbreviation for the CBOE Volatility Index. This index measures market expectations of short-term volatility and is often referred to by commentators when discussing market up and downs.
Looking back at the index for the past 20 years reveals some interesting stats:
Past 5 years (2019-2024):
- The VIX has averaged 15.75, with a high of 29.25 in 2020 (during COVID) and a low of just 12.92 in 2024.
Previous 10 years (2009-2018):
– The VIX averaged 20.17, with a high of 37.32 in 2018 and a low of 9.14 the year before.
20 years prior to 2009 (1989-2008):
– The VIX averaged 14.44, indicating lower market volatility, with a high of 26.25 in 2014.
If one compares the VIX with the actual S&P 500 return. Highlighted below are three periods where the VIX was highest, and then came the subsequent 1-year return of the S&P 500. This is a perfect example to encourage investors to sit tight even in extreme market downturns.
So, despite the world feeling all topsy-turvy at the moment, the VIX actually shows that markets are less volatile than before and that the average volatility today is close to what it was 20 years ago.
Embracing uncertainty
What I think is important to recognise is that if this volatility measure had been closer to zero, then the opportunity to grow your investments would also be much lower. A bit like the ‘safe’ investments such as money market funds.
If stock prices did not rise and fall there’d be very little chance for your investments to grow. But what about losing money when prices fall, you may ask: you only lose money if you sell your investments at prices lower than what you paid for them. So, if you stay invested when prices are down, you haven’t lost anything.
Which brings me to three ways you can embrace volatility to give your portfolio the best chance of meeting your retirement needs.
Aligning strategy with your risk profile
Your investment strategy should reflect your risk tolerance and life stage. Everyone has a different level of comfort when it comes to risk, and this often changes with age and financial circumstances.
It’s essential to assess your risk profile regularly and adjust your strategy accordingly. Remember, it’s easy to feel comfortable taking risks when markets are performing well, but it’s equally important to be prepared for downturns.
The power of diversification
Diversification is a fundamental principle in investing. By spreading your investments across various asset classes and geographical regions, you can reduce risk and improve potential returns.
Diversification doesn’t eliminate risk entirely, but it helps manage it more effectively by not putting all your eggs in one basket.
Don’t chase last year’s winner.
It is quite natural to want to be invested in last year’s winning asset class, but years of data shows that this in practice never works.
Instead, focus on the time you spend in the market. Historical data shows that those who remain invested through market cycles and ignore the noise tend to achieve better long-term results.
And, please remember, uncertainty is not a flaw in the system, it’s an essential part of investing that, when approached correctly, will reward you. Stay informed, stay patient, and let your investment strategy unfold over the long term.
* Renee Eagar, Certified Financial Planner®, is head of Brenthurst Wealth Claremont, Cape Town [email protected]
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