Thinking About Hurricanes (And Bear Markets)
Hurricane season is upon us, and with it comes the threat of storm damage to our homes and businesses. Most of us at Linscomb & Williams are familiar with how it feels to live in an area threatened with a significant hurricane about once every ten years. Such is life on the Gulf Coast of southeast Texas.
Bear markets are a little less run-of-the-mill than hurricanes. Nevertheless, Houston wealth managers understand the similarities between the two. Just as we prepare for meteorological storms by stocking up on supplies, putting together an evacuation plan, et cetera, investors should be prepared for occasional market volatility.
This article explores these topics:
- What do bear markets and hurricanes have in common?
- How bad can a bear market get for your portfolio?
- Does a shrewd investor need to stay afraid?
- Can you lessen volatility’s impact by getting proactive?
- Could diversifying your assets protect your equity?
Why We Don’t Give Up
For perspective, let’s go back to Houston’s hurricanes for a moment. Despite our personal memories of experiencing flooding, none of our L&W family has decided to sell their home and move away from Houston. We got into a discussion of this during a staff luncheon one day.
Eventually, we attempted to answer the question, “Why stay in Houston despite knowing that it is not a question of ‘If,’ but when the next significant hurricane will impact our area?”
A few common answers came out of that luncheon conversation:
- “The risk is worth the award; 99 percent of the time, you have a nice house in a nice location close to some of the greatest people in the country.”
- “If you were born here, you are just used to it.”
- “I could live somewhere else and face earthquakes or wildfires. Hurricane threats are a small price to pay to live in a place like Houston with a great economy.”
These thoughts can be instructive for framing how we should think about the possible impact of a bear market on our portfolios: There is no “if,” just “when.” We are likely to see one at least once during every 10 years. However, this doesn’t necessitate pessimism.
A bear market in stocks (defined as a decline of 20 percent or more) may do some damage, even to a well balanced portfolio, in the short term. However, history shows that you will likely recover. In fact, if your assets are diversified, you may see minimal (if any) long-term impact from it.
Bear markets are part and parcel of the risk of being an investor in the stock market. And the rewards in the long-term from being invested in quality stocks are well worth planning for this risk. Compared to the returns likely from more conservative investments (bonds or cash), your long-term returns on stocks will probably outpace inflation.
Bear markets are almost always preceded by periods of strong economic growth that have fueled an extended bull market. In fact, they occur so regularly and predictably (every three to five years) that they are actually considered normal parts of the business cycle.
As with other normal occurrences, such as birthdays or anniversaries, it's important to prepare yourself mentally before you enter one. When it arrives, you'll be ready, mentally and financially as a result—instead of shocked by its arrival.
Believe it or not, there are bear markets and then there are BEAR MARKETS: The worst in history occurred from September 1929 to June 1932, when the S&P 500 lost over 90% of its value (including dividends). As extreme as that experience was, it is important to recognize that such a severe bear market is unlikely to be repeated in our lifetimes.
Planning Is Everything
We prepare for the risks of a hurricane. This involves sensible things like building your home on a solid foundation above the floodplain, owning a backup generator, and stocking up on emergency food and water supplies. Similarly, smart stock market investors make sure they own the stocks of high-quality companies that will bounce back when the storm passes.
They generally have enough diversification in their asset allocation to ensure that everything they own does not go down in price at the same time. Meanwhile, they also keep enough emergency cash on hand to ensure they are not forced to sell their stocks at the wrong time.
In other words, they have a plan in place before the bear market arrives. For instance, consider making sure some portion of your money is liquid; able to be accessed at any time without penalty. That means money market investments, CDs or other short-term fixed-rate investments (which like will prove stable when volatility arrives).
This helps to keep your money safe and accessible during the turbulence that comes with financial uncertainty. Again, diversify your portfolio across different types of investments. For example, consider spreading your holdings across, for example, stocks, bonds, and real estate investment trusts (REITs).
Investing in index funds rather than individual stocks can provide access to a broad swath of companies within each industry sector—without having to pick just one stock out of thousands. This means you don’t necessarily need an investment plan designed specifically for the direst situations.
Rather than living in dread, focus on being prepared for a more typical bear market experience. That should involve, at most, a 40% to 50% decline in stock values. Taking this approach will probably save you both time and energy. It can also prevent you from becoming overly discouraged during temporary periods of extreme volatility.
The Sun Often Shines Again
We’ve observed that bear markets seem most fearful to newly-retired investors who are not yet accustomed to their new chapter of life. Since they are still adjusting to the lack of a regular paycheck, observing a decline in portfolio value can cause them concern.
For the same reason Texans might be more fearful about earthquakes if we moved to Los Angeles, these new retirees fear the volatility: They have not lived through a bear market to enjoy the recovery on the other side (yet).
“If you want to see the sunshine, you have to weather the storm.”
—Author Frank Lane
Linscomb & Williams has the investment management Houston needs for sunny market days, during bear markets, and for all the seasons in between. If you are currently between advisors, our decades of experience can provide the reliable planning you’re after. Contact us today.