Bumpy, Lumpy Bulls

Story Highlights

• Recent market volatility is a perfectly normal thing for stocks.
• Volatility by itself says nothing about future stock returns.
• Investors commonly make the error of "getting out until things calm down" or locking in the year's gains. Both strategies are a disservice to longer term goals.

Yesterday stocks surged; today they sank. It's been a choppy market, particularly in light of relatively sedate performance in recent years. What are investors to do?

No one is ever certain about market direction. After hundreds of years of capital markets development, you'd think investors would catch on to the notion there's a risk/return relationship to investments. (Risk is also commonly known as volatility.) Stocks have among the highest returns versus other kinds of securities; therefore, they also have higher risk. It's pretty simple. Volatility in stocks is by definition a mundane thing.

Yet, like a booming, discordant chorus, we constantly hear from the media a familiar warning: "In these uncertain economic times" or some derivative. For instance, "GDP growth might be strong today, but in these uncertain times, investors are concerned about high oil prices." (Open up the paper and you can find countless similar examples.)

Those searching for a time when economic and market conditions appear certain had better quit the investing game now. When has the market been absolutely certain before? Hmmm…

…oh, yes, we remember. It's happened twice recently as a matter of fact! First in 2000 with tech stocks and the "new economy." That didn't turn out well. Second, just a couple years back with the "housing never goes down!" and "I'm quitting my job as a taxi driver to become a real estate agent!" craze. That didn't end well either.

Certainty is something to fear. When everyone believes something, then it's priced in and thus prices have to go the way opposite to the pervasive belief.

Folks naturally fear stock volatility—big changes carry more emotion. Since we know fear and loss are more potent than joy and gaining, big stock market moves make for more jittery investors.

In truth, volatility doesn't say anything about future stock returns. Market choppiness is just as often your friend as enemy. Stocks can go way up—and in very short order. Missing those big up days is just about the worst thing you can do as a long-term stock investor.

It's the sum of the days that matter most—that's why MarketMinder often says "it's time in the market, not timing the market." If you're bullish, you've got to be fully invested and not let volatility or short-term moves fool you because missing the biggest up days put you behind the market—not good!

Today felt tragic to our portfolios. But long-term investors look back on history and realize how small such lumpiness really is. Days like today look like ultra-tiny speed-bumps over the longer term.

Another wrong investing philosophy is to say "Oh, we're nicely up already, let's just take our winnings off the table and start over in the New Year." No! kowtow-ing to the calendar to "lock in" gains is a big mistake. (What do calendar years really have to do with how the markets will move, anyhow? With the exception of tax planning, nothing really.) Believing in seasonal stock performance is just as mythic as fearing volatility. The only thing to really focus on is a market cycle—when and where the bull starts and ends. Everything else is just a head-fake.

Today's market downturn was supposedly catalyzed by Financials companies' downgrades and fear over high oil prices. As MarketMinder recounted often in this space, we know both these fears to be false. Thus, today's action is mere noise amid a bigger bull market. Stay in the game and don't let the bumpy, lumpy ride scare you away.