For now, the S&P 500 is down 8% from its recent (all-time) high on Feb 19.
It’s an uncomfortable feeling not knowing whether an 8% drop will turn into a 25% bear market, but some things in life are unknowable – even to the most astute investors.
It is key to remember that through all the previous market downturns, it has always recovered. Usually quickly (Post-Covid in ‘20) but sometimes slowly (Post-Lehman in ’08-‘13); but it’s during these abrupt declines when our emotions threaten to overrule our more rational instincts.
As you know, at Single Point the main risk we seek to mitigate is the risk of permanent loss of capital, which happens only if we liquidate positions during the ‘storm’, versus waiting until the storm has passed. We construct portfolios with the full expectation that market declines – both shallow ones and deeper ones – are a fact of life, albeit with different frequencies.
Knowing that the markets have always recovered, the key is to make sure our clients have sufficient cash and bond buffers to ride out the bear leg of the cycle for an extended period of time. We model those bond buffers on the assumption that the recovery of stocks could take several years – in a stress test scenario. These buffers allows us to raise cash without being forced sellers of stock, as well as to buy additional equity exposure at ‘a discount’ with proceeds from bond/cash. This framework has underpinned our approach to portfolio construction, and has served our clients well through many corrections and bear markets.
According to research by Jurrien Timmer of Fidelity, since 1927, ‘mild’ corrections of -5% have happened 57% of the time, while drops of -10% have happened 37% of the time. Bear markets (-20% or greater) have happened 20% of the time, yet over the long-term, the stock market has compounded at 11% per year. (see graph below)
The political backdrop notwithstanding, investing is ultimately about math and these are good historical stats to keep in mind while we worry about what comes next.
