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All-time highs, recent dips, and media noise

A few down days in financial markets and a drumbeat of “doom and gloom” from the media can be enough for a typical investor to throw in the towel. Even though the Global Financial Crisis and widespread collapse of finance companies was a decade ago, for some the memories can seem like yesterday. It's not easy to hold your nerve as you watch share markets plunge – but 'stay calm' really is good advice.

As has been widely reported in the news, global share markets have fallen over the past few days, giving back 6% of recent gains. Keeping this in perspective, investors had a great 2017 with unusually smooth returns, which has fed its way into general public expectations and media interpretation of the recent pullback. For 2017, the US share market index (the S&P 500) only had four declines from its peak that were greater than 1%. The largest fall was only 2.8%! This smooth performance, despite a positive economic outlook, is not normal. History suggests that on average, share markets actually have a 5% pullback once per year, and a 10% decline every two years. While this has been quicker than the usual decline, the size of the pullback is actually within the “normal” bounds of market behaviour, even when share markets are generally rising. This is something that tends to be forgotten in the media. (Not to mention that most investors have a diversified portfolio, with other investments such as fixed interest and property that smooth the bumps from share markets.)

Not only is the recent fall well within this “normal” range, but it comes after a strong gain in January, so the S&P 500 index is still up around 1% for the year so far.

How have New Zealand shares reacted?

Closer to home the NZ share market had a quieter start to the new year, and after reopening following the Waitangi Day holiday, fell only a relatively muted 1%. This is quite typical for the local share market in these scenarios, given its more “defensive” nature.

Positive drivers of share markets are still in place

While pullbacks create volatility and fearful newspaper headlines, they often turn out to be buying opportunities when looking back, once clearer thinking prevails. Looking ahead, the investment managers we work with are unanimous in their assessment of the positive underlying fundamentals driving global share markets:

  • Economic growth remains positive,
  • Business and consumer sentiment is upbeat,
  • Interest rates are still supportive, and
  • Corporate earnings are still growing nicely.

These key pillars are still driving markets, and it’s not just in pockets of the global economy, but everywhere from North America, to Europe, to Asia. While wage growth and inflation has been singled out in the recent pullback as areas of concern, they both remain well within the range that is generally positive for share markets.

What should investors do?

Let’s review billionaire Warren Buffet’s general advice provided in his 2013 annual Berkshire Hathaway letter to shareholders:

“It should be an enormous advantage for investors in stocks to have those wildly fluctuating valuations placed on their holdings – and for some investors, it is. After all, if a moody fellow with a farm bordering my property yelled out a price every day to me at which he would either buy my farm or sell me his – and those prices varied widely over short periods of time depending on his mental state – how in the world could I be other than benefited by his erratic behaviour? If his daily shout-out was ridiculously low, and I had some spare cash, I would buy his farm. If the number he yelled was absurdly high, I could either sell to him or just go on farming.

“Owners of stocks, however, too often let the capricious and often irrational behaviour of their fellow owners cause them to behave irrationally as well. Because there is so much chatter about markets, the economy, interest rates, price behaviour of stocks, etc., some investors believe it is important to listen to pundits – and, worse yet, important to consider acting upon their comments. Those people who can sit quietly for decades when they own a farm or apartment house too often become frenetic when they are exposed to a stream of stock quotations and accompanying commentators delivering an implied message of “Don’t just sit there, do something.”

“For these investors, liquidity is transformed from the unqualified benefit it should be to a curse. A “flash crash” or some other extreme market fluctuation can’t hurt an investor any more than an erratic and mouthy neighbour can hurt my farm investment. Indeed, tumbling markets can be helpful to the true investor if he has cash available when prices get far out of line with values.

“A climate of fear is your friend when investing; a euphoric world is your enemy. During the extraordinary financial panic that occurred late in 2008, I never gave a thought to selling my farm or New York real estate, even though a severe recession was clearly brewing. And, if I had owned 100% of a solid business with good long-term prospects, it would have been foolish for me to even consider dumping it.

“So why would I have sold my stocks that were small participations in wonderful businesses? True, any one of them might eventually disappoint, but as a group they were certain to do well. Could anyone really believe the earth was going to swallow up the incredible productive assets and unlimited human ingenuity existing in America?”

We appreciate that at times market fluctuations can create a sense of fear and even have some investors questioning what may come. At Milestone Direct, we strive to only recommend quality investments backed by solid independent research which can withstand the test of time. If this strategy is something that makes you want to take your investments to the next level, please have a chat with one of our advisers.