A Few Words on Market Volatility

We are sure you have already heard all about the “largest single-day point decline” for the Dow on Monday: down 1,175 points (or -4.6%). The dramatic headlines are all focusing on the “tremendous sell-off on Wall Street,” and market commentators are already taking credit for knowing that this was bound to happen because interest rates are rising and inflation is sure to increase as the economy heats up. If we look past the dramatic headlines for a moment though, what happened? To find a specific answer as to “why” the market dropped is a futile exercise. The stock market went down for a couple of days. That’s what happened. This should be expected. Over the past 18 months we have enjoyed one of the least volatile periods for the stock market in recent history. Returns have been positive, and the ride has been easy. And though this has been our recent experience, it is not normal for volatility to be so low. Look at the following chart. It shows the intra-year declines from 1980 to 2017 and then the end-of-year returns. Even though the S&P 500 was positive in 29 of 38 years between 1980 and 2017, it experienced a drawdown from its peak every single year. On average, the intra-year decline on the S&P 500 was -14.2%, ranging from just -3% to -49% in 2008.  The compound annual return on stocks over this period was +11.8%. Or, to put it another way, $10,000 invested in the S&P 500 at the beginning of 1980 would have been worth $620,000 by the end of 2017. In a globally-diversified portfolio (Dimensional Equity Balanced Strategy) you would have done even better - ending with $1,206,000 because of a two percentage point higher return per year. But what if you decided to avoid these unpredictable but inevitable short-term declines and invest in risk-free Treasury Bills? You would have earned just +4.4% a year and your $10,000 barely reached $50,000. Our advice: stay focused on what you can control and ignore these wild market swings.