Wait, You Mean Markets Can Go Up 'And' Down?

by: Joseph L. Shaefer
Summary

It isn't as if we should be shocked - shocked - that markets correct.

This one is long overdue for at least a short correction.

These charts showing the broad action of the past 20 years provide valuable perspective for times like these.

In updating our month-end portfolio for subscribers Wednesday I wrote, in bold lettering, "Next we have to see if this [January's fabulous gain] marks a melt-up leading to a decline, as many pundits say, or if the market digests these gains with a slight correction and moves forward -- as I believe it will."

666 points down in a single day sounds horrific - but for perspective we must remember that the Dow was up 1,430 points just in January. A (nearly) 50% retracement is not unusual: parabolic rises often result in parabolic declines.

Bull markets usually last longer than bear markets and are more measured in their advance. Bear markets are usually shorter in duration but much more vicious in amplitude. The same is often true of the smaller-cycle moves up, like January and down like, so far, February.

Is there any good news from today? Yes, in what didn't happen. It seems most traders did not add to short positions, they simply stepped aside. If there is any good news over the weekend or on Monday, I imagine there will be some bargain-hunting that could stabilize the markets.

If not? I would rather not see "the Bear" start here but if it does we will adapt. That's what rational investors do.

I think the best thing I can do for regular readers to place this in perspective is to reproduce here the charts at the beginning of the article I suggest every new subscriber to Investors Edge® on the SA Marketplace read – our “Getting Started” article:

Welcome to Investor’s Edge®! Read This First For Best Results...

Reading this article first will give you the “big picture” of what we do and how our approach differs from others.

We diversify across asset classes first, THEN decide which investments within them make the most sense.

This means, instead of owning the one flavor everyone is suddenly dumping, you always have a finger in the pies we believe will become, or remain, most in demand.

If you see a typical guru or newsletter's fits-on-the-back-of-a-business-card ad, it will typically read like, "We are the best biotech analyst on the Street" or "We know high dividend stocks better than anyone" or "Make money with our closed-end fund recommendations."

Our approach is different.

Our first step is asset allocation. There may be months or even years where we don't even consider a particular asset class, then switch into it for some considerable time.

We hew to our asset allocation first, then and only then we select what to buy within that class.

A new Investor's Edge subscriber asked me recently why our firm works so hard at this rather than simply buying the index fund with the lowest expenses. (We often get this question well into or at the end of a bull market when passive works best!)

I explained to him that if you follow such an approach you will do well as long as the index does well, but you will suffer dearly when the index goes down. You can see the results of such an investment "plan" below. Just five charts show pretty much the entire market history of the past 20 years. I'll use the S&P 500, since most people think this represents "the market."

December 1997 to December 1999:

https://staticseekingalpha.a.ssl.fastly.net/uploads/2017/1/12/142982-14842743176694844.jpg

All Charts Source: Author, using Yahoo Finance

Then came January 2000 to March 2003:

March 2003 - October 2007:

Here's the market cycle that followed: What a great market! You would have doubled your money in less than 5 years!

https://staticseekingalpha.a.ssl.fastly.net/uploads/2017/1/142982_14842731144661_rId8.png

November 2007 - March 2009

Regrettably, you would have again given it all back (and more) if you owned an S&P index fund. By March 2009 you were below where you were in 1997.https://staticseekingalpha.a.ssl.fastly.net/uploads/2017/1/142982_14842731144661_rId9.jpg

This is not intelligent investing; it is buying just one subset of all the choices you could have had, all too often after it has already appreciated beyond the price or value metrics that make it worth buying. And this only if you had perfect timing, as well!

If you like roller coasters, enjoy them in a theme park, not in your portfolio.

Which brings us to TODAY:

S&P 20090315 to 20180202.jpg

We have now enjoyed the second-longest bull market in history. Does January 2018 represent a market topping area, a warning one is near, or a small pause to a gift that keeps on giving? I don't know, you don't know, Junie Moon doesn't know, and Warren Buffett doesn't know.

Source: Public Domain Pictures

… I continue in my article for new subscribers with a more in-depth discussion of our approach to adaptive investing. Here I will simply let the charts above speak for themselves.

“To everything there is a season.” I strongly recommend that you learn to use trailing stops. As your profits rise, tighten the stops. That is what we do. On Friday we took smaller profits than we would have taken if a little bluebird landed on my shoulder Thursday and whispered, “The Dow is going to decline 666 points tomorrow.” But since that has never happened (to me, at least) I must instead rely upon…

* Intelligent asset class diversification

* Rational stock, fund and ETF selection, and

* A stressless, emotionless exit strategy based upon using our trailing stops.

Like I said above, I would rather not see "the Bear" start here but if it does we will adapt. That's what rational investors do.

Good investing,

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.