Periods of volatility in markets can feel unsettling, particularly when the news headlines remain relentlessly negative. On any given day, a company’s share price essentially reflects two things. Firstly, the consensus view of the value of future cashflows, whether such profits are paid out to shareholders as dividends, or reinvested to continue growing the business. And secondly, what is known as the ‘multiple’ of those future cashflows. The most well-known such multiple is the Price: Earnings ratio (PE ratio). For high-growth companies, with favourable market conditions, PE multiples tend to increase, and vice-versa when companies are struggling or the economic backdrop is tough.
Recent news has caused investors to worry about both of the above factors.
The current levels of uncertainty and concern about the economic impact of tariffs mean that investors are worried that companies will be less profitable than they have been, and also that growth will be generally lower. The resulting volatility is a reminder that stock ownership is not a free ride. All of the market’s initial gains following President Trump’s election victory in early November 2024 have now been given back – and more. At the time of writing, the S&P 500 is over 10% lower than it was immediately prior to the election result.
Uncertainty abounds, but then again, it always does.
Stock markets generally do a good job of factoring in all relevant information – which means that the price of a company’s shares, or the market as a whole, at any particular point in time, can be taken as being an accurate reflection of ‘fair value’. Even at the best of times, trying to second-guess what the next headline might be and therefore whether stock prices will go up or down, is extremely difficult – and is a game best left to those who have the confidence and ability to do so. Whilst many have no shortage of the former, the evidence suggests that few – even the professionals – possess the latter.
Investors are therefore left with little choice but to ride out stock market turbulence and accept that stock ownership can come with a bumpy ride. There are no easy answers and there are no crystal balls – patience and fortitude are required.
At times like these, investors need to remind themselves of some important principles to avoid the risk of making decisions that could lead to poor – perhaps disastrous – outcomes. This short note also presents some powerful graphics which can reassure longer-term investors.
Reminder 1: Avoid trying to time when to be in or out of markets
It can seem tempting, at times like these, to sell one’s shares and sit on the side-lines with cash until stability returns. However, research[1] suggests that few investors, whether professional or otherwise, possess any ability to successfully time when to be in or out of markets. The risk of trying to do so can be extremely costly, as the graphic below demonstrates.
Figure 1: Market timing can be costly
Source: Albion Strategic Consulting. Albion World Equity Index (https://smartersuccess.net/indices). Jul-07 to Dec-24. Daily returns in USD.
Reminder 2: The market falls from a peak every single year
The stock market falls from a high at some point every year. Current levels of global stock market falls are not uncommon. In itself, this doesn’t make it any less uncomfortable to endure bumps in the road like the current one, but remembering that such moves have happened many times before does provide some important context. The chart below is a powerful reminder that, even though markets actually tend to have fairly large falls in most years, over time they have consistently recovered and gone on to produce further gains.
Figure 2: Every year, the market falls – global
Source: Albion Strategic Consulting. Data: Vanguard Glb Stk Idx $ Acc
Looking at US stock markets specifically, where investors are currently experiencing the biggest ‘losses’, shows exactly the same story.
Figure 3: Every year, the market falls – US
Source: Albion Strategic Consulting. Data: Vanguard Institutional Index I.
Reminder 3: Volatility is already factored into your financial plan
Volatility – a statistical measure representing the bumpiness of the ride – is always inherent in markets. Assumptions about investing returns incorporate an expectation of interim volatility. Significant and protracted stock market declines are expected from time to time as a feature of markets. This is understood when making the appropriate decision in our investment recommendations to you.
Falls in investment values can be substantially mitigated by ensuring that portfolios are well-diversified, both geographically and at individual share level, so that there is not too much concentration in any one country or company. Equally, an appropriate allocation to high-quality bonds, which historically tend to move inversely to equities, can significantly reduce the overall volatility of a portfolio.
Figure 4: Market returns vary widely around the average
Source: Albion Strategic Consulting. Albion World Stock Market Index. 1985-2024. Returns in USD.
It is impossible to know how long the current volatility will last, whether or not we go lower still – but we do know that such falls are not uncommon, that trying to time the market is extraordinarily difficult and, that in the past at least, patience and resilience have been rewarded.
Important notes
This is a purely educational document to discuss some general investment related issues. It does not in any way constitute investment advice or arranging investments. It is for information purposes only; any information contained within them is the opinion of the author, which can change without notice. Past financial performance is no guarantee of future results.
Products referred to in this document
Where specific products are referred to in this document, it is solely to provide educational insight into the topic being discussed. Any analysis undertaken does not represent due diligence on or recommendation of any product under any circumstances and should not be construed as such.
[1] E.g. Dai, Wei and Dong, Audrey, Another Look at Timing the Equity Premiums (October 11, 2023). Available at SSRN: https://ssrn.com/abstract=4586684 or http://dx.doi.org/10.2139/ssrn.4586684