What. A. Week. (And A Market Volatility Playbook)
I confess that I have a problem. I’ve been in this business long enough to have experienced some all-time volatility—the dot-com bubble bursting, 9/11, the financial crisis, the Covid crisis, and now the crisis my co-author, Tony, has dubbed, The Tariff Tantrum. :-)
But here’s the actual problem: I have enough market experience—and such a firm conviction in how markets work and how we can best help utilize them to better our lives—that when times like this occur, I view them somewhat dispassionately. If anything, I get excited, for two reasons:
Academically, this stuff really is fascinating, however frustrating. You’ll see our Quote O’ the Week from the legendary Mark Twain below, but this truly does fall into the historic category. So, for someone who has experienced a lot of market history—and studied even more—this is an intellectually stimulating time.
The fact is that when markets just go higher-and-higher, people tend to pay less attention to them, but it is times like these when clients, readers, and investors worldwide tend to consider all of wealth management with a renewed interest. And this provides folks like Tony and me with a great opportunity to meet curiosity with engagement and education.
Forgive me if this sounds a little emotionally detached, and please know that, despite my personal posture, I’m capable of seeing the recent weeks of gut-wrenching market activity empathetically for what they are: stressful for most, painful for many, and panicked for some.
And we’re here to walk through this with you, so thanks for joining us for a special edition of the Financial LIFE Planning weekly, including a Market Volatility Playbook and an enlightening update from Tony with the week’s happenings and a reminder that Risk Is Compensated Over The Long Run!
Tim
Tim Maurer, CFP®, RLP®
Chief Advisory Officer
In this FLiP weekly you'll find:
Financial LIFE Planning:
A Market Volatility Playbook
Quote O' The Week:
Mark Twain
Weekly Market Update:
Risk Is Compensated Over The Long Run
Financial LIFE Planning
A Market Volatility Playbook
This week, I set to revisiting, editing, and updating a bunch of previous posts that I’ve written for Forbes and CNBC that focus on market volatility and its effective management. I certainly don’t expect you to read all seven, but just like I do with the Wall Street Journal weekend edition, I encourage you to glance at the headlines and snippets and choose which of these will be the most helpful to you right now:
1.How To Know When To Get Out Of The Market
We’ve all heard of the cost/benefit decision-making model, but “cost” and “benefit” are intellectual constructs too distant from the actual emotions that drive our decision-making. We need to address the gut—the “pain” and the “pleasure” associated with a tough decision. The following four-step model seeks to merge the head and the gut. And while it’s applicable in virtually any either/or scenario, let’s specifically address the decision to stay invested in the market or to move to cash.
2. Why The Stock Market Is Volatile, Why Volatility Hurts, And What To Do About It
The willingness to endure volatility has tended to reward the disciplined investor, and often the greatest reward immediately follows the most significant times of market turmoil.
3. Take More Risk In Life And Less In Investing
Yes, we each have a unique tolerance for risk, but regardless of how full our risk reservoir is, it is still an exhaustible resource. Therefore, the more risk you’re taking in your portfolio--the more volatility that you are enduring and the more resolve you’re expending to stay the course--the less risk you have to spend on the rest of your life.
4. The Antidote For Stock Market Hysteria
Portfolio volatility isn’t supposed to be the most interesting thing in your life. Your portfolio is better served to simply support the most interesting things in life.
5. Investors Beware: You Can’t Get Outperformance Without Underperformance
The best portfolio isn’t the one that has the potential to make the most money, but the one you can stick with for the long term. It feels better to miss out on a little upside than to bail out on an overly aggressive portfolio after losing a lot.
6. 3 Ways To Gain From Market Losses
Politicians, it seems, 'never let a serious crisis go to waste,' and neither should you.
7. How should retirees deal with crazy markets when they don’t have time to “stay the course”?
Retirees need to satisfy income needs today, but they also need to address income needs in the future. So while it’s a slight oversimplification, I invite retirees to view the conservative fixed income portion of their portfolio as their short-term income engine—and the stock exposure as designed to generate income years from now. You can only 'stay the course' if you have one. And if you don’t need to take on equity risk? There’s no moral imperative to endure market volatility just because some talking head tells you it’s the only way to grow.
There’s a reason we write so much on this topic, because there are few things that are more representative of the intersection of money and life than the emotions of market volatility. I hope you find something that is helpful, and if you do, please hit [REPLY] and let me know, because I’ll look to write more on that particular topic.
Quote O' The Week
This quote, attributed to one of the great American writers, serves as a guide when navigating the art and science of portfolio and money management:
Mark Twain
“History doesn't repeat itself, but it often rhymes.”
Weekly Market Update
In one of the wilder weeks in market history, indices gave back a chunk of what had been lost in prior weeks. For the year, only international stocks are in the green:
+ 5.70% .SPX (500 U.S. large companies)
+ 3.36% IWD (U.S. large value companies)
+ 1.75% IWM (U.S. small companies)
+ 0.18% IWN (U.S. small value companies)
+ 4.52% EFV (International value companies)
+ 6.44% SCZ (International small companies)
- 2.07% VGIT (U.S. intermediate-term Treasury bonds
Risk Is Compensated Over The Long Run
Contributed by Tony Welch, CFA®, CFP®, CMT, Chief Investment Officer, SignatureFD
To contextualize the extreme market volatility this week, we’re featuring a very long-term chart to zoom out and explore the relationship between risk and return. The chart below shows investment returns all the way back to 1926 for various asset classes. The data in the left column shows the full history of gains and volatility. What becomes immediately apparent is that volatility (standard deviation) has tended to be rewarded with stronger returns. It’s not a perfect relationship, but directionally, it holds.
So take, for instance, T-bills. T-bills assume minimal default risk and low interest rate risk. As such, they have had low volatility but have not returned much more than inflation. Treasury bonds still have low default risk but take on interest rate risk. They have, therefore, outperformed T-bills but with more volatility. Corporate bonds assume some additional default risk, and not surprisingly, they have outperformed Treasury bonds.
Finally, stocks have performed much better than the other asset classes because stockholders assume even greater risks, such as bankruptcy. Volatility has been much higher but that risk has been compensated well. In volatile markets, sometimes it pays to take a step back and remember that risk is compensated over the long run, but drawdowns may be significant in the near-term.
The Message from Our Indicators
Markets remained volatile last week as reciprocal tariffs were temporarily paused. The market cheered the news initially, but as our friends at Ned Davis Research point out, baseline 10% tariffs, 145% tariffs on China, 25% on steel and aluminum, 25% on autos outside Canada and Mexico, and 25% on non-USMCA compliant goods are still a significant boost in the blended U.S. tariff rate.
They estimate that the implied average tariff rate would be about 35%, equivalent to 3.9% of the total U.S. economy. That level of tariff revenue is equivalent to the largest corporate tax hike in history. If we assume that imports from China fall 50% due to the extremely high tariff rate, the blended rate will fall quite a bit but still be above 20%. Maybe even more important than the tariffs is the uncertainty around trade policy, which has not likely cleared up yet. Uncertainty around the rules of the game can result in delayed investment and hiring. We would note that consumer confidence has soured along with small business confidence.
Regarding consumer confidence, the University of Michigan Consumer Sentiment Index came in lower than expected on Friday, and inflation expectations surged. One-year expected inflation was 6.7%, the highest level since 1981. It is clear that the trade and economic uncertainty is weighing on sentiment, and we need to watch the impact on actual expenditures. The labor market has been holding up well, but if consumers retrench for too long, we would anticipate a pickup in layoffs, creating a significant headwind for the economy.
As we saw in the data this week, trailing inflation trends have been moderating. Consumer inflation was 2.4% over the past year, and producer price inflation was 2.7%. These are manageable numbers and could potentially support a Fed rate cut; however, the future impact of tariffs may keep the Fed on hold in May as they will likely be concerned that inflation expectations are too high.
Earnings season is off and running, with analysts expecting about 6.7% earnings growth through Q1. Likely more important than the reported earnings will be corporate guidance. Heading into the year, earnings were projected to grow at a double-digit rate in 2025. It is not unusual for companies to guide earnings weaker throughout a calendar year, but the degree of earnings deterioration is important. Valuations, especially for large domestic Growth companies, remain somewhat elevated. Positive earnings growth could be a necessary condition to justify elevated valuations.
From a trend perspective, stocks and bonds have both become oversold. We continue to be on the lookout for a bottoming process. Typically, the market would stage an oversold rally attempt, after which another bout of weakness would not be abnormal before the ultimate bottom is found. That process can take days to months. Regardless, our trend indicators have weakened substantially, suggesting that we want to be neutrally allocated between major asset classes and well diversified within those asset classes.
If you’re feeling a little extra stress with all the market and economic turmoil of late, check out Dr. Andrew Huberman’s recommendation for a simple breathing technique—the physiological sigh—that can reduce your stress whenever and wherever you choose to practice it.
Tim