You are at Point A today and have a financial goal sometime in the future, which we’ll call Point B. Many investors search for the secret path of success to Point B. You know the path we are talking about – the magical low-volatility, high-return investments that can deliver consistently high returns without ever making you feel uncomfortable to be invested in them. The problem with that path is we are not aware of anyone who has found it – ever. However, even though the path is pure fiction, most investors make investment decisions thinking it exists. Put another way, investors tend to make investment decisions about their long-term goals (Point B) based on how they feel today (Point A). Making long-term investment decisions based on how you feel today has never proven to be a successful long-term strategy. Getting to Point B will necessitate from time to time acting differently than what most others are doing and, at times, even looking wrong in the short term.
Any sharp decline in the stock market is often accompanied by dire headlines in the media, often using words like crisis or meltdown. Although the news reporting helps to create a climate of urgency and fear, the fact is that volatility is a normal part of investing.
A look at the chart below, which represents the long-term performance of the S&P/TSX Composite Index, shows that fluctuations are simply par for the course. Even significant declines are not unusual. There have been six declines exceeding 20% in the Canadian market since 1977.
However, even though market volatility is not unusual, it can still be unsettling. That’s why it’s also important to remember that market declines have been followed by even greater recoveries. Take another look at the chart. It shows that in every instance the stock market eventually retraced its losses and went on to post new highs. In other words, the stock market moves in short-term cycles but the long-term trend is up.
One defence against market volatility is to try to put the daily news into a long-term perspective. Despite the crisis reporting, we know that recessions end, that businesses continue to operate, and that economies and markets recover and grow.