2022 has been pretty brutal to the markets, with the S&P down over 14% and the bond market down 10.35%!  It’s bad enough when stocks are falling precipitously, but adding bonds to the mix and sprinkling some severe inflation on top has left this year feeling like a total gut punch.

We all felt that a downturn was inevitable, as the markets had been going up so high for so long.  While not many are bold enough to try to time the markets, hindsight leaves us feeling like we should have done something about it.

While circumstances are different (as they always are), we’re left with the same questions as is usual:

  • How far down will this go?
  • Do we need to do something about it?
  • Am I going to be okay?

Before we get there, I wanted to share a startling statistic I heard recently from Stanford University.  In observing 400 bicyclists around campus, it was noted that 46% of them were wearing face masks, while only 17% of them were wearing helmets1.  Are these students really more afraid of catching COVID while riding a bike (something that is not only near impossible but also something that is very unlikely to be fatal for college students) than they are of getting in a bike accident (something that is both much more likely and potentially fatal)?  What’s wrong with us?

We tend to think of ourselves as pretty good judges of things.  Judges of character, situations, opportunities, etc.  But one thing that we tend to get wrong repeatedly is our judgement of risk.  We tend to put too much importance on some risks while not giving enough weight or consideration to others which are either much more likely or harmful.

I see this all the time when it comes to insurance and estate planning.  If you can believe it, only 46% of Americans have a will in place, while there is a 100% chance of needing one!  This is a risk we know will happen, but we don’t want to deal with it because it involves our own mortality.  Similarly, while premature death is likely the highest financial risk to providing for one’s family, only 54% of Americans were covered by some sort of life insurance (and even less by an adequate amount).

The most common form of misjudged risk in my opinion is when it comes to our investments.  For within our investments, there are many different forms of risk – inflation risk, interest rate risk, concentration risk, longevity risk, currency risk, geopolitical risk, overreaction risk, and volatility risk, to name a few.

Of these, volatility risk gets far and away the most attention, and it’s understandable why that’s the case.  Volatility is what we see on a daily basis.  It drives our retirement accounts up or down by tens of thousands of dollars at a time.  It feels unpredictable and uncontrollable and for the most part, that’s true.  Over any short period of time, we can’t know which direction the markets will go or for how long or to what degree.

There are, however, a few things that I’d like to remind us of while we’re in the midst of one such period:

Volatility is more of our friend than our enemy

Volatility is what allows the markets to skyrocket up even during somewhat normal economic periods.  We don’t complain about it in the years that the markets go up, which is around 75% of the time.  It’s what has allowed the number of American millionaire households to increase from 5.94 million to about 22.46 million over the past decade!

Right now, volatility feels like a friend that has stabbed us in the back.  It’s a no-good, double-crossing betrayer.  In reality, though, volatility hasn’t changed at all.  It has two sides of the sword, and we must accept these harsh times if we’re to allow it to work in our favor as it repeatedly has and will continue to do in the future.

Inflation may be the risk that affects us all the most

Volatility may seem like public enemy #1 right now, but inflation will prove to be our arch-nemesis.  Assuming that inflation gets back under control and moderates to around 3%, this means that your money will be worth about 55% what it is 20 years from now.  Trying to reduce your risk by focusing on volatility only will actually increase the risk of not keeping up with inflation.  Because, as you’re likely aware, the best way to keep up with or outpace inflation is by investing in equities and thus volatility to help grow your investments.

If inflation can’t get under control and the average rate increases by another 1%, then your money is worth only 45% of what it is today.  Which could ruin a lot of otherwise solid financial plans.  The Fed seems committed to keeping things below this rate, and they have a lot of tools at their disposal, but only time will tell how effective they really are.

Emotional/Overreaction Risk is the hinge

While most of the risks to your investments are things you can’t to anything about, the primary one each of us should be focused on is the risk of overreacting.  Knee-jerk reactions are the one way that investors can make irreversible mistakes that could affect them for a lifetime.  We all know that trying to time the market is near-impossible, for not only do you need to know when to get out of the markets, but also when to get back in.

Hindsight can be a really bad companion at times, reminding us that we had intuition that we should have made certain moves or adjustments, and look at where we’d be if we had just made that one great call!

We all want to buy low and sell high, but our emotions seems to want to prevent us from doing just that.  Instead, we feel great when prices are high and fearful when prices are low.  Professional investors are aware of this and use investor emotions as a contrarian indicator.  This means that when investors are fearful, it means that it’s a potentially great buying opportunity, and we should be most cautious when investors are feeling great.  CNN has a great “Fear and Greed Gauge” they put out at https://www.cnn.com/markets/fear-and-greed.  As you can see, we’re almost at the “Extreme Fear” level, which could be a great sign.

How is your own Greed/Fear Gauge doing?  Ideally, we’d all want to remain at neutral all the time.  These emotions not only cause us to make bad financial decisions, but they are toxic for our hearts as well.  As stewards, it matters how we handle God’s money.  But He cares way more about our hearts than our portfolios.

So if you’re feeling stress or tension over the volatility that’s out there, the best first step is just to acknowledge it.  Give me a call and we can talk it over.  Pray and talk to the Lord about it as well.  Confession can be very healing, and the simple act of naming the temptation can help it lose much of its power.

The next thing I’d advise is to react appropriately without overreacting.  This is certainly a time when we’re making some changes to our investment line-up, reducing some of the investments that may struggle in times of higher inflation or higher interest rate environments, raising a bit of cash on the sidelines, and reducing slightly some exposure to things like international investments during periods of geo-political crises.  I believe that tactical adjustments are not only okay, but are prudent.  The trick is to do so without trying to outsmart the markets, without acting out of fear or greed, and to do so in moderation.  In other words, don’t forget to put on your helmet, but then continue to enjoy the ride!

Lastly, I’d encourage us all to remember a bit of history.  Not just of the US stock market (although that’s helpful as well), but of the course of world history.  Cycles are inevitable.  Periods of prosperity are followed by periods of struggle, and we don’t have to try to completely avoid them.  As Americans we can get so focused on alleviating pain, whether it’s through medication, escape, retirement, social media, drinking, and things much more harmful as well.  While I don’t enjoy pain any more than you do, let’s remember that it’s okay to go through periods of pain.  They remind us of our need for God and of our heavenly home that will be pain-free.

So to answer our original questions, I’d say that no one knows where the bottom is.  Just look online at any financial website, and you’ll get 10 professionals to give you 10 different answers.  Yes, there are some tactical things to be done and we’ll continue to implement them in moderate amounts without trying to make large gambles.  And yes, you’ll likely be just fine, so long as you don’t overreact to the market events of the day.  That’s the one thing that could be detrimental, both to your emotional state as well as your portfolio.

Thanks for allowing us to partner with you in this journey.  If you’d like to talk about this or anything else, we’d love to hear from you.

1Source: https://stanfordreview.org/stanford-bicycles-helmets-masks/