We all love a good bull market, but are uptrending markets always the best for long-term investors? We spend from ages 20 to 60 or even 70 accumulating assets, and only the last 10-30 years cashing them in to live on. Why would we worry about a correction or bear market, unless we are at the cashing-in stage? What are the benefits of declining markets?
By way of definitions, a pull-back is defined as a five to 10 per cent decline, a correction is a 10–20 per cent decline and a bear market is anything over 20 per cent. A bull market is the time between two bear markets, periodically interrupted with pull-backs or corrections.
Major corrections or bear markets are what investors fear most, as they fear short-term loss of equity. This fear keeps most people away from investing in stocks and giving up the significantly superior returns from owning small parts of successful companies.
On March 9, 2020, the Canadian market (TSX) experienced its worst day since Black Monday, Oct. 19, 1987, down 10.3 per cent on the day. That was followed up on March 12 with the worst day since 1940 and a decline of 12.3 per cent. In a three-week period, the TSX dropped an historic 30.3 per cent. I wasn’t alive at the time but expect the gravity of situation when the Nazi’s were marching across Europe was more significant than COVID-19 will turn out to be.
The U.S. S&P 500 had declines of 7.6 and 9.5 per cent on March 9 and 12, and a three-week loss of 26.8 per cent. While milder than the TSX, these losses were similar to the worst two days of the 2008 financial crisis and approaching the worst two days in October of 1929, which were eerily close to the recent TSX numbers. It is said that the stock market takes the stairs up and the elevator down. That was quite an elevator ride! By the way, on Black Monday the U.S. market was down 22 per cent and the TSX had the milder day, down just 11 per cent.
The market crash of 1929 was commonly blamed for the Great Depression. However, it was bad policy decisions afterwards that caused the worst of the depression. Trade wars erupted between countries as they attempted to protect their own industries, while bad interest rate and monetary policy were also fingered as causes. Will our leaders today make better decisions?
Changing investor sentiment is the key reason for stock price changes. Like all commodities sold on an open market, when there are more sellers or more aggressive sellers than buyers, prices will decline. Sentiment changes when profit outlooks changes. The current outlook has dimmed considerably because of COVID-19. World growth rates were expected to strengthen in 2020 after a tepid 2019, but now a recession looks probable. By the time you read this the scare may have blown over (March 13 ranks as one of the best days ever on the market) or it may have worsened. Only time will tell.
While most will worry about the negatives when markets decline, there are also benefits. We can purchase quality companies at better valuations. We also get better dividend yields with declining prices. For instance, if a stock trading at $50.00 and paying a four per cent dividend yield drops to $35.00, the yield goes up to 5.7 per cent. For those who are in the stage of accumulating assets this is a good thing. However, I will admit that the week of March 9 was perhaps too much of a good thing.
Even experienced investors such as myself suffered a lot of stress. The uncertainty and volatility are likely to continue for quite some time. It is impossible to know how it will develop in the short to medium term. How much further will the market drop? What will be the economic ramifications of the drastic measures taken? Will those drastic measures work and will they have been worthwhile? Perhaps some of the answers will be evident by the time you read this.
The market is driven by greed and fear. Successful investors will suppress both of these emotions. While many questions exist about the impact of COVID-19, I am certain of one thing. Longer term, the markets will recover. They always have before.