The Market Is Freaking Out: Here's Why You Shouldn't

by: Roger Nusbaum

There is a funny thread of sorts among the people I follow on Twitter that makes fun of the Fast Money crew from CNBC because no matter what is going they are all correctly long or short and making money every day. I never watch the afternoon show and often mute the mid day show unless they have a luminary on so I don't know how much this thread is exaggerating.

The reason to bring this up is to talk a little about the psychology that goes with weeks like this one. A big part of what I try to do in client accounts and also write about is defensive action to help avoid the full brunt of large declines in order to smooth out the ride over the course of the entire stock market cycle.

If you've stuck with this blog for a while then I have to think this approach resonates with you on some level. We start defensive action based on an objective trigger (the 200 DMA) but however you take defensive action invariably on days like yesterday, you wish you had taken more defensive action. If the S&P 500 goes up 30 points today you will wish you had taken less.

This sort of emotion is one of many that investors will possibly encounter although I would say it would be better to understand where your emotions might go ahead of time and try to mitigate the chances of acting out on your emotion.

If I say to you that "markets correct downward every so often and sometimes these can be fast and quick moves that scare people, but markets and the stocks that comprise markets come back at some rate of speed and that the decline will not wipe you out," what would you do with that?

If the S&P 500 was at 1550 and everyone was feeling pretty good, then most people would say that "well of course the market goes down 20% now and then, the volatility is just fine." Now as the market feels like it is down a lot people tend to forget the rational voice that knows markets do go down as they are now.

I've drawn some negative comments when I've said this before but the behaviors in the market are not different, though the details causing the moves might be. It is the same emotions (various stages of fear, greed and panic) that we are seeing now that we have always seen before. The market will come back, even the S&P 500 will make a new high at some point. The caveat is that it might take much longer than investors would hope, necessitating owning other countries (that's my thesis, anyway).

Caterpillar (NYSE:CAT) had been a long time hold. We have sold it a couple of times along the way including a few months ago as part of our defensive action. We sold it because it tends to get crushed in recessions which is where I thought we were headed when we sold it (we are probably there now). I sold it on the same logic a few years ago as well. The decline in 2008 was far more than the current 34% decline but the point is that market behaviors do repeat.