National Post (National Edition)
PELLETIER
HERE ARE FIVE LESSONS FROM THE MARKET PANIC.
The market correction over the past 2½ weeks will go down as the fastest in history — no other period has experienced a greater than 20 per cent drop in such a short period of time.
We’re now in full panic mode with stocks being sold at steep discounts, banks blowing out client positions to cover margin shortfalls, ETFs off-loading illiquid underlying positions and a plethora of quant funds all using the same trading algos that are flashing DEFCON 1.
The fact of the matter is that corrections happen, but the magnitude and speed of this one really makes one question the near-term outlook from here. That said, there are some important lessons to learn from all this that will help provide some longer-term perspective, something severely lacking amid the sensational headlines.
Understand the powerful influence of social media
“No, everybody is not panicking, it’s just that you’re only hearing from the people who are.” — Michael Batnick, Director of Research at Ritholtz Wealth
This is the first real crisis in today’s world of social media and connectivity. Traditional media now has to compete with the likes of Facebook, Twitter and Instagram when it comes to reporting the news and so the narrative is often surrendered to whatever gets the most likes.
As a result, the more sensational the headline the more it will spread and get readership. For example, according to Sprinklr and as reported by Vox, mentions of COVID-19 and other related terms across public social media, news sites and TV grew from one million daily hits on Feb. 20 to a whopping 19.1 million on March 11. Fear sells and it sells very well.
Passive investing is compounding volatility
When investors collectively hit the sell button on their ETFs, all underlying positions have to be sold proportionally in order to meet redemption requirements.
This includes those less liquid positions that may have to be blown out at any price even though it may be 25 to 50 per cent below the ask. This wouldn’t happen in an active managed fund, as the portfolio manager has discretion over what is sold.
To add some perspective on the potential magnitude of this problem, ETF assets have now grown to more than $5 trillion globally, up from the $700 billion in 2008 when the financial crisis started, according to Bloomberg Intelligence. That said, if they are collectively having this influence on the sell-off, perhaps it’s worth asking what will happen when they chase the ask on the eventual recovery?
Is your portfolio being risk-managed and does it match your risk tolerance?
This is a great time to gutcheck yourself and measure your overall willingness for taking on risk. If your anxiety is directly correlated to the moves in your portfolio then you likely took on more risk than you are truly comfortable with.
This is when risk-management strategies are really proving their worth, especially for those who have longer-term government bonds in their portfolio. From a risk-drag perspective, it will now take a 36.5 per cent recovery in the S&P 500 to get back to its previous highs. By helping protect a portion of your portfolio from the large drawdowns in the market, bonds not only reduce the time it will take to recover but also keeps anxiety in check, enabling one to play the long game and prevent panic reactions in the near-term.
No one can predict or time market tops or bottoms but they can manage through them
One always has to expect the unexpected as the cost of entry when it comes to investing. Few anticipated just how quickly the coronavirus fear factor would spread (including us) and no one expected the Saudis to concurrently react by getting into a global oil price war. This sent markets into a tailspin, including the energy heavy S&P/TSX Composite Index losing over 12 per cent on Thursday alone, its biggest one-day decline in 80 years.
For those thinking of panic selling, Vanguard did a great case study looking back at a 60/40 portfolio in December 2018, when markets plunged to end the year before rebounding just as quickly to start 2019. An investor with a $1 million portfolio on Nov. 1, 2018, would have lost 5.7 per cent of its value by Christmas Eve but just two months later would have been sitting on a gain of 4.2 per cent. An investor who panicked and sold and went to cash on Christmas Eve would have nearly $100,000 less than one who simply stayed the course.
These opportunities don’t come around very often, so have a plan and stick with it
In total, more than $12.5 trillion has been lost in global equity values in a month, about two thirds of the $18 trillion lost in 2008 during the financial crisis.
While the S&P 500 is only back to where it was in November 2017, MSCI EAFE markets have been sold down to September 2008 levels, while in Canada the S&P TSX is now back to August 2008 levels, meaning 11 years and no returns for investors. Actually, if you go back far enough the EAFE markets are at levels reached in November 2004 and the TSX at December 2006. Think about that.
As a result, we’ve seen some Canadian banks recently trade with dividend yields in excess of 10 per cent, utilities with yields in excess of six per cent and Canada’s best-run energy companies trading below book value.
In conclusion, we think there is no better time to rebalance and reposition than in today’s current market. While it may take courage to trade against the crowd especially when they are in full panic mode, we’ve found these environments are often once-in-a-decade opportunities.
Martin Pelletier, CFA is a Portfolio Manager and OCIO at TriVest Wealth Counsel Ltd, a Calgary-based private client and institutional investment firm specializing in discretionary risk-managed portfolios as well as investment audit and oversight services.