Broker Check

Where to Turn When Volatility, Uncertainty Arise

| February 21, 2022

The questions we’re going to address in this post are the direct result of some inquiries by clients concerned about record high inflation, rising interest rates, and most recently, the geopolitical risks of Russia invading Ukraine. As readers of this blog are aware, we've discussed those risks for months now and laid out our playbook on how to best hedge against them.

Thus far, that playbook and tactical portfolio positioning, which included holding portions of cash at times because of so many unknowns, have served us well and mitigated some of the volatility seen in the major indexes. However, recent news has instilled a new fear into people regarding Russia's geopolitical risk. So now we want to step back and discuss the playbook on a more macro level, along with the folly of market timing.

Patience is Invaluable

We can use history (RECENT) and data as guides. Keep in mind, it wasn’t that long ago that people seemed to collectively lose their minds over the market.

From March 4-18, 2020, the Dow Jones Industrial Average fell almost 7,200 points, or 27%. For perspective, the seven biggest Dow declines of all time happened in the first half of 2020:

We can all agree that investors dream of knowing exactly when to sell and exactly when to buy back. Well, I've never been so gifted. That's because the real problem is market re-entry. If you miss the bounce, you miss everything.

Again, looking at history in 2020, the recovery from those seven biggest Dow declines was up 20% in only three days:

And by August of that year, investors who stayed fully invested made all their money back (by November, they went on to double their money from the lows):

Now, there was a lot going on then. COVID-19 had just become a pandemic, and of course, there were many ripple effects and uncertainties. As a result, many investors did not stay fully invested that whole time. For instance, we moved some allocations to cash for protection because it aligned with our risk mitigation strategies (with the cash being redeployed in tranches that year). But for the sake of analysis, we want to present the data as if an investor never left the market.

So, if we look at a situation where stocks were never sold due to tactical management, panic, or anything else, how would we have done? I won't make the easy comparison of measuring from the bottom to the top. Instead, we’ll measure from the peak of Feb. 12, 2020, to the low of Feb. 11, 2022, to see how a buy-and-hold strategy worked out.

Looking at the table above, the first historical lesson is clear: long-term investors can simply let the market come back to them. Patience is essential.

Lean on Data, Fundamentals

With the two-year macro-level review complete, let’s zoom in to today. Last week we saw a continued balance of “big money” buys and sells in data from our friends at MAPsignals:

That allowed MAPsignals’ Big Money Index (BMI), which measures “big money” institutional investor activity, to rise 1.1% last week up to 42.7% overall:

But what we found most interesting is that buying outnumbered selling, with small-cap stocks leading the way. Selling really thinned out in larger stocks. Without a doubt, the strong small-cap display, along with the overall weight of buying, are welcome changes.

On a sector basis, you can see more yellow highlights in the table below than in the recent past as buying appears to be back, at least in some sectors (i.e.-rotation). This prevalence of semi-broad buying helped push the BMI higher.

Looking forward, as for most of this year, the fears have revolved around higher interest rates and inflation. Now the news cycle is focusing on the tensions in Ukraine, which have been boiling for weeks and seem to be coming to a head.

But even with that new fear, when we examine the market further, the recent volatility hasn't been very significant. What does that mean? It means the down days of selling have not come with big volumes. To us, that’s important and very bullish.

Additionally, we can see that much of the recent selling has been dictated by exchange traded funds (ETFs), which likely means trades executed by headline-reading algorithms:

What this really means is that the macro landscape is shifting. Capital is rotating. While on the surface it appears money may be moving out of equities, it's merely shifting among sectors.

As for the tensions in Ukraine, thankfully we can again turn to history. In 2014 Russia invaded Ukraine. Our friends at MAPsignals analyzed what happened in markets then. As you can see, markets recovered quickly from the last invasion (and from the Ebola scare not long after):

So, while the news cycle reflects one thing, the turn to data shows a different set of possible conclusions once again. At the end of the day, earnings and revenue growth drive the market. Other events can certainly affect returns, but fundamentals run the show over time. It’s why we trust them.

As evidence, look to projected performance over the next two years. Bloomberg’s projected earnings growth rates are 7.1% in 2022 and 10.0% next year, respectively, based on larger revenues:

For us, data trumps fear every time.

Securities sold through CoreCap Investments, LLC.  Advisory services offered by CoreCap Advisors, LLC.  Cornerstone Financial and CoreCap are separate and unaffiliated entities.