- Last week's stock market sell-off was the 12th worst in a 90-year history, and the 4th worst post-World War II.
- This article looks at how markets have performed in the aftermath of similarly negative weeks.
- There are a wide range of outcomes, but on average, forward returns are not overly concerning. As time horizons extend, markets recover.
For many investors, the coronavirus-induced sell-off in U.S. stocks was the second, third, or fourth worst week of their investing careers. Last week's -11.4% return for the S&P 500 (NYSEARCA:SPY) was the worst since October 2008 (-18.1%) at the outset of the Global Financial Crisis. Professional investors at least in their early 40s may have experienced the crash after 9/11, when the S&P 500 sold off 11.6%. Before those two memorable weeks, the previous worst week that may have been experienced by some readers was the October 1987 sell-off when the S&P 500 fell -12.2%, including a frightening 20% sell-off on Black Monday of that week. Any other investor that has experienced a worse week prior to those 3 weeks had to be active during the early parts of World War II!
It was a historically bad week for the market. Graphing weekly returns for the S&P 500 and its predecessor indices back to 1928, and last week's negative return is a visible outlier.
Including the Great Depression, last week was the 12th worst performance on record in a dataset stretching back a whopping 4,806 weeks. Over the full dataset, 99.8% of weeks have been better than last week.
That is the historical view. What investors should be asking is what have forward returns looked like from weeks this bad. In the table below, I have examined the 25 worst weeks for the S&P 500. To the right, I have also calculated the returns for the next week, next month, next quarter, next year, and forward 3 and 5-year periods. The goal is to answer the question: "After weeks as bad as last week, where does history suggest we go from here?"
The table above lists the 25 worst weeks on record in descending order. For the sake of readers, I will walk through a row on this table to illustrate the data contained within. The second worst week on record (row 2) was the week ending October 10th, 2008 early in the Financial Crisis meltdown. That week, the S&P 500 fell 18.14%. The next week, the stock market rebounded 4.61%. Over the next 4 weeks, stocks were up 3.74%, giving back some of the gains from that first-week bounceback. Moving forward 13 weeks, or roughly one quarter, and stocks were down slightly (-0.22%). One year (52 weeks) from that October 2008 weekly drawdown and the S&P 500 had returned +22.34%. Over the next 3 years, stocks would rally 37.34% (11.2% annualized). Over the next 5 years, stocks rallied 102.31% (15.1% annualized).
On average, stocks have tended to be about flat (-0.04%) in the week after a historically bad week. However, of the 11 weeks worse than last week, 9 were positive, excluding only the German incursion into France in 1940 and the early days of the infamous stock market crash of 1929. While returns the next week average to something close to zero, there has been tremendous volatility around that average. Annualizing the standard deviation of these 24 weeks gives a 55% figure, roughly three times normal return volatility.
Over the next month, from a historically bad week, stocks have tended to be off slightly (-0.85%). Of the 24 weeks with forward returns tabled, 12 were up over the next month and 12 were down. The range of outcomes is roughly double normal stock market volatility.
Over the next quarter, returns were slightly worse (-2.81% on average). However, if you exclude the 12 weeks in the Great Depression in the dataset, returns were actually slightly positive in the remainder of the weeks.
Over the next year, stocks were up slightly on average (+2.2%). Excluding the negative weeks occurring during the Great Depression and stocks were up (+7.6%), still below trend, but respectable. After the worst weeks on record, stocks are up one year later more often than not.
Over the next three years, stocks were up 9.58%, on average, and 20.24% ex-Depression. The only negative period outside of 1929-1937 was during the unwind of the tech bubble from 2000-2002.
Over the next five years from historically bad weeks, stocks were up 43.5% on average, and 51.35% ex-Depression. As the time horizon extends, returns have tended to normalize back towards the trend (roughly 10% annualized) and tended to be more likely to be positive. Time heals all portfolio wounds.
From this information, I believe that the post-9/11 period might be an interesting analogue for investors. In that scenario, the shock event was difficult to price by markets before the event, had a significant and negative near-term impact on travel, led to a short-term disruption in normal everyday life, and forced a difficult to quantify risk premia to be placed on markets in the aftermath.
Evoking 9/11 memories are painful, and I do not aim to be disrespectful to the loss of life in that event, which is at this point similar to the global loss of life from the coronavirus to date. The post-9/11 week saw stocks down 11.56%, quite similar to last week's 11.44% swoon. Over the next one week (+7.82%), one month (+11.27%), one quarter (+18.97%), stocks did quite well in the 9/11 aftermath. After a bit of a sell-off in mid-2002 related to accounting irregularities at Worldcom and continued post-tech bubble volatility, stocks were again in the green over the next 3 and 5-year periods, albeit below historical trends.
This data is useful for me in framing the recent move. By all accounts it was historic. Markets will be volatile over the next several weeks and months. Investors should re-assess their tolerance for risk. While momentum could lead to continued negative pressure, returns will ultimately normalize, providing appropriately positioned investors opportunity.
This article was written by
Analyst’s Disclosure: I am/we are long SPY. 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.
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