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The Anatomy Of A Stock Market Crash

Is this time different?


It was not even three weeks ago that I wrote and sent our last communication about the “Coronavirus Chaos” correction. That piece was easy to write. This one was not. Not because I am at a loss for words, but because there is too much information that I want to convey. With that being said, I had to narrow this down to a handful of key topics:

  • What you are feeling right now is normal
  • Bear markets are not especially rare
  • Why you should not “bail out”
  • Timelines of previous Bear/Bull Markets


“This time it feels different.” This statement was said and felt every single time we entered a bear market:

  • The Cuban Missile Crisis
  • The Dot-Com Bubble
  • The Arab Oil Embargo
  • The Financial and Housing Crisis

Each one of these crashes felt as if it was “the one” during the midst of it… as if that particular crash would be the one to take it all down. That there was no bottom. Every time that feeling ended up being wrong. The chart below perfectly conveys the completely normal investor cycle of emotions.




At the bottom of this chart, investors are likely to feel attacked, panicked, and, most commonly, stressed. We are wired to react with a fight or flight instinct in the face of attack, stress, or panic. Six hundred years ago, only 5% of what is now the U.K. was literate. In that world, fight or flight instincts are useful. Today’s world is much more intellectual and those reactions are a hindrance at a time when we NEED to make rational and logical decisions.


So let's look at this logically. We are in a bear market (defined as a drop of 20% from all time highs). We have had 9 bear markets since 1929. Each bear market has been preceded and followed by large stock market gains (bull markets). 


On average, bear markets are significantly shorter than bull markets and the losses are much smaller than the gains achieved during bull markets. The chart below illustrates how much longer and meaningful bull markets can be.




The obvious question is “Should we just sell and put everything in cash until things settle down?” I’ve been asked this question and I understand the logic behind it. To answer this question, we must first accept the most sacred and fundamental of investment principles and that is BUY LOW and SELL HIGH!


By definition, if you cash out during a bear market you are doing the opposite of the first rule of investing. You are SELLING LOW and BUYING HIGH. Second, let’s say you decide to cash out of the market. You just can’t take the volatility anymore and are going to wait until the smoke clears. This is the definition of market timing. This, in my opinion, is a fool's errand. But if that is what you want to do, you should ask yourself “what is my plan for getting back in?”


March 9th, 2009 is when the tide turned during the last bear market. There was no press conference, no all-clear smoke signals, and not a soul on earth said from here on out that the skies are clear. The chart below shows what would've happened if you had $10,000 invested in an S&P 500 ETF on that day. 



The graph below from Capital Group shows investor in and out flows from mutual funds. You will see that investors often pour money into the market after it has a great year and pull money out when it does poorly. For example, there were record outflows from stocks in the first quarter of 2009, which was the bottom of the market. Those investors then missed the uptick when markets recovered.

If you accept by now that we cannot correctly time when to get out and back into the markets you are likely wondering how long will it take for this market to recover? The chart below shows the various statistics on different levels of market corrections. I should note that this particular bear market has occurred at a record pace. It is our view that markets move much faster (both up and down) now than in previous decades due to the speed of information and prevalence of computerized trading.



Looking at the chart above, you may come away with the intuition that this could last a while, and it very well could. This also may be over in a dramatically short fashion. We cannot possibly begin to predict how long this will last. We do know that it will very likely be choppy for a while. We also know that recoveries have been very strong after bear markets. The chart below illustrates returns in 1, 2, 3, 4, and 5 years after a bear market bottoms. 



I don’t blame anyone for thinking this time feels different. If for no other reason, the speed at which this bear market has occurred is astonishing. However, for context I want to make two final points. First, in 2008, our entire financial system was on the brink of collapse, which led to the worst recession since the Great Depression. We may have been days away from banks closing doors, ATMs running dry, and civil pandemonium. This time around, we do not believe we are close to that type of crisis. Cruise liners may go under, airlines might need some help, and we may experience a recession. But in our view, we are not on the bow of a sinking ship. Financial institutions are in a healthy place, consumers are strong, and quite frankly the dramatic steps institutions and governments are taking to limit the spread of this virus will help curtail a “worst-case scenario” pandemic.


The last point I wanted to make helps put this bear market into context. Although we are off the all time high by over 20% from the beginning of 2017 until close on 03/11/2020, the market is still up dramatically. The purple in the chart below shows what an S&P 500 ETF has done and the orange shows what a bond fund has done. (Bonds are in all our portfolios except the most aggressive and long term). The point of this chart is to say we cannot look at the drama of the recent drop without taking into account the gains of recent years.


At FSG we are here to educate, support, and advise, especially in times of stress. We are doing our best to be proactive by calling and sending out communications like this one.  As always, if you have additional questions or concerns, please do not hesitate to reach out!

View related content at the links below:

https://fsgmichigan.com/blog/coronavirus-chaos-thank-you-for-your-confidence

This commentary on this website reflects the personal opinions, viewpoints and analyses of the Financial Strategies Group, Inc employees providing such comments, and should not be regarded as a description of advisory services provided by Financial Strategies Group, Inc or performance returns of any Financial Strategies Group, Inc Investments client. The views reflected in the commentary are subject to change at any time without notice. Nothing on this website constitutes investment advice, performance data or any recommendation that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person. Any mention of a particular security and related performance data is not a recommendation to buy or sell that security. Financial Strategies Group, Inc manages its clients’ accounts using a variety of investment techniques and strategies, which are not necessarily discussed in the commentary. Investments in securities involve the risk of loss. Past performance is no guarantee of future results.

Written by: Brice Carter


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