Invasion Contagian
Recent political events in the Ukraine are prompting an out pouring of grief and reactions from all over the world. The invasion has caused enormous suffering on the people living in the Ukraine and collateral economic damage all over the world. Uncertainty about the future causes confusion and anxiety in everyone.
Let’s take a closer look at what is taking place within the context of the bigger picture.
To gain perspective, we will look at history, because if not repeating, it is often rhyming with similarities. We may gain some idea of what to expect by considering the frequency of previous market corrections, the duration of these events, and how long they have taken to recover. We will also consider previous geo-political events and the impact of similar events on investors.
The Right to Freedom
Self determination and the ability to thrive by our individual choices is a freedom many of us consider a fundamental human right. Once freedom is experienced, it is not easily removed, even by an invasion of this magnitude. If anything, the world is united against tyranny, and there is a collaborative voice rejecting terrorism.
What matters is what Winston Churchill once described as, “the indefatigable human spirit”. The reference was about the resilience of people forced to take shelter underground from bombings night after night, emerging from the dust and debris, to clean up as they did, to begin all over again, day after day. Alacrity, the cheerful readiness to get things done, prevails over the violent suppression of freedom.
Things Are Not As They Seem
There have been many bumps in the road to the present and there will be many others in the years to come. Over the past 42 years, investors in a basket of the world’s most watched businesses have seen positive rates of return 32 times. Positive returns three quarters of the time contradicts what most people experience; that's because we feel the few drops that take place during the year approximately 54% more than we feel the gains.
We are vulnerable to suffering from Loss Aversion. We feel a loss at about twice the level of emotional energy as we feel a similar size gain.
There is other bias that can blind side us. Even experts on the study of bias are vulnerable to their own bias. The best we can do is be aware of our vulnerability, observe it in operation, and act without judging. If we can be indifferent to the emotion, we can use our observations to decide where the opportunity is.
The chart above shows how the average drop during the year was around 14%, while the average gain year over year, from January to December was 9.4%. Enduring the short term pain of loss resulted in substantial gains for patient investors.
So, first we can see that price drops are nothing new or unusual. We may also observe a bias called Base Rate Fallacy, where we see only what appears at the surface without looking behind the numbers. We need to think to the second level, beyond the immediate price drops that appear on the surface. Rising commodity prices, for example, is good for a market like Canada that produces oil, wheat, and potash.
A technical correction is when the market drops by more than 10%. Clicking on the chart below, you can see how long corrections of -5% have lasted, on average over the past 10 years.
Correction Duration
Once the trough has been reached, we begin the move back to the previous peak. Part of our behavior is to anchor on the highest price point we have ever seen, and then measure progress from that arbitrary value. Anchoring is common behavior, and people will often feel as though they are at a loss until they get back to the position they are anchored on. Click to see the average length of time it takes to recover.
Correction Recovery
There is something else we want to be aware of and that is inflation. When inflation is running at 7.5%, that means we need $75,000 of gains on a $1,000,000 portfolio to have the same purchasing power the next year. Where are we going to make that kind of money?
I can tell you how we are not going to make it – sitting in cash or fixed income is a guaranteed loss of purchasing power.
Inflation
Another urge we need to resist is the Do Something Syndrome. It doesn’t pay to confuse motion with progress. Where money is concerned, sometimes we get paid more to sit and wait. If we have bought a diversified portfolio of heirloom quality, dividend paying businesses, we can get paid four ways. Collect the dividends, reinvest the proceeds buying more of the same great businesses, allow the underlying value of the businesses to grow, and watch the price catch up to the underlying value.
In the short term the market is a voting machine, like a beauty contest, where popular opinion rules the day. Today it may be popular to project all the angst and fear pent up over the past couple of years while under covid into a "sky is falling" armeggedon scenario of global calamity.
In the long term, the market is more like a weighing machine, where value is based on earnings and the intrinsic value of assets, the true arbiter of value. Here is what took place during previous military conflicts.
Historical Stock Market Performance Following Military Invasions
Quoting another great one, Wayne Gretzky, who coined the phrase, “Go where the puck is going”. Let’s refocus on where we are going. We have an investment plan, and it was built to manage through times like this. We can't predict these events, we can only prepare for them.
The world doesn’t end because of one ego centric dictator. It never has and if it were to come to pass, none of this is going to matter. So, we may as well stick to our knitting, and go where the puck is going. Refocus on your own personal plans, where are you going and what do you need? Has anything in your personal circumstances changed?
Let’s pray in our own way for the good people of the Ukraine, and band together in solidarity to work toward the common good.