2022 was a very difficult year for investors. From January to the market bottom in late October, global bond and equity prices fell by more than 20%. The sharp post-pandemic rise in inflation and the dramatic geopolitical crisis in Ukraine contributed to these drawdowns, which were exacerbated by aggressive rate hikes from central banks seeking to tame the surge in inflation.
While it is not uncommon for markets to experience periods of high volatility, investor behaviour often plays a big role in these market moves. In periods of high uncertainty, investors struggle to assess the implications of shocks to the economy and their emotions tend to prevail, leading markets to overreact and fall sharply and rapidly.
When news headlines are gloomy and markets have fallen it can be tempting for investors to sell equities, fearing that greater losses are around the corner. Exhibit 1 shows that during the biggest recent market drawdowns – the bursting of the dot-com bubble, the global financial crisis and the Covid-19 pandemic – the largest net outflows from the S&P 500 Index occurred after the market had already experienced sharp declines.
Exhibit 1: S&P 500 performance and fund flows
USD billions, three-month net flows (LHS); index level (RHS)
Source: Investment Company Institute, Refinitiv Datastream, Standard & Poor’s, J.P. Morgan Asset Management. Fund flows are US long-term equity fund flows with ETF flows included from 2006 onwards. Past performance is not a reliable indicator of current and future results. Guide to the Markets - Europe. Data as of 31 December 2022.
Sadly, history tells us that more often than not selling when the market has already fallen significantly is the wrong thing to do.
Exhibit 2 shows some of the episodes in which the S&P 500 Index has fallen more than 25%. In most cases, the index surpassed its pre-crisis level within the following year. Only after the two biggest recent market sell-offs – the dot-com bubble in 2001 and the global financial crisis in 2008 – was the recovery period longer. Nevertheless, in these two examples, the index still regained the level seen at the start of the bear market and a prolonged positive market cycle followed.
Volatility occurs because economies tend to move in cycles. Periods of slowing growth and recession that drive market declines are usually followed by monetary and fiscal policy actions that help shape the next phase of economic reacceleration and expansion. Markets can react very sharply on news that policymakers are stepping in to help turn the economy around.
And it’s important to remember that markets are forward looking and move on expectations of future growth. Therefore, market rebounds often arrive earlier than evidence of a pickup in economic activity.
History tells us why it is important to invest with a long time horizon. Our calculations show that $1 invested in the S&P 500 at the beginning of last century would have grown to $2,600 at the end of 2020 (page 89 of the 1Q23 Guide to Markets). This growth was achieved despite many crises and dramatic events over the period, including the Great Depression of the 1930s, the Second World War, the energy crisis in the 1970s, the dot-com bubble, the attacks on New York and Washington on 11 September 2001, the global financial crisis, the Federal Reserve taper tantrum and the Covid-19 pandemic. In the long run, economies and asset prices tend to expand, driven by growing populations, and business investment in new technologies.
The key takeaway for investors is don’t let gloomy short-term news dominate long-term financial planning. All too often this results in selling near a market trough and missing the opportunities that arise in periods of volatility.
Exhibit 2: Subsequent 12-month returns after 25% drawdowns
%, S&P 500 total return in USD
Source: Bloomberg, S&P Global, J.P. Morgan Asset Management. Past performance is not a reliable indicator of current and future results. Guide to the Markets - Europe. Data as of 31 December 2022.
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