Correction: 1. The action or process of correcting something. 2. A change that reflects an error or inaccuracy.
U.S. stocks recently went through a so-called ‘correction’ being defined as a loss of 10% - 20% peak to trough. This is not surprising as statistically speaking corrections occur about 1.5 times per year on average. Bear markets (20%+ declines) occur on average once every four years or so. Of course, a decade can pass with no bear market, or we can have two of them in just a couple years like was the case in 2020 and 2022. While well intended financial pundits predict such market declines regularly (just as otherwise smart economists predict imminent recessions like many have been doing month after month since 2021), the reality is that even if you had Jay Powell and Warren Buffett (or pick whomever you consider the smartest, most informed economist and investor in the world) next to you, neither one could tell you with a straight face when the next recession or correction will occur.
I have always thought that the term “correction” was a strange one for a stock market decline. It implies that stock prices were somehow “wrong” before the drop and “right” afterwards. Back in the 1990s as the internet proliferated and all of a sudden, the average investor could buy and sell stocks with the click of a button, experts prognosticated that stock prices would become ultra-efficient since information and the ability to act on it instantaneously had become prevalent. And indeed, over time, stock markets are highly efficient and ultimately reflect the future earnings power of companies; in the near term it’s a totally different story.
Why? Because humans are…. humans, meaning they largely act on emotions rather than on pure logic or facts. It is not like having more access to information has led to fewer bubbles or irrational behaviors – just the opposite. Look at the recent examples of SPACs, meme stocks (do you think that phenomenon would have occurred pre-Internet?), etc.
Here is an analogy. If you look at a game of soccer with 6-year-olds, they all go chasing after the ball, bunching up together in one spot. Of course, they are very inexperienced, thus their actions are based on emotions (“I want to get near the ball!”) not on what is optimal (being spread out, maintaining their positions, being disciplined, etc.). The game appears to be – and basically is – chaotic.
Compare this to a professional game like Manchester City (probably the best team in the world) vs. Chelsea. Players are spread out throughout the field, they maintain their positions, they each act highly rationally and the ‘system’ works. When a player gets out of position, the other team takes advantage of it and advances the ball if not scores.
The stock market, with millions of ill-informed investors with the ability to make trades based on headlines and emotions with the click of a button, is akin to a bunch of 6-year-olds playing soccer. Most are not acting rationally. They are not basing their buy/sell decisions on fundamental company research or an assessment/revision of their 20-year financial plan. Rather, they are either scared (the market is going down, thus they sell to ‘stop the pain’) or they are greedy (the market is going up and they can no longer stand ‘missing out’ thus they panic buy, often at tops – think all the people who piled into EVs at just the wrong time, many of those companies down 70% or more since shortly after they IPOd).
Bottom line, the next time there is a correction – which there will be many times throughout your investing life – take a step back and think before taking any action. Ask yourself the questions, “Do I need the money now?” “Did I do proper asset allocation, and do I have enough money set aside to cover my needs for the next year or so?” “How long do most corrections last?” (the answer will surprise you – it is usually just a few months, in some cases a matter of weeks – or even a few trading days like we experienced just in the last couple weeks). Just because the market is up or down a lot does not necessarily mean something is ‘wrong’. Sometimes selling begets selling. There is nothing to ‘correct’; the market is just reflecting the combined decisions of millions of investors in the moment, swarming after the proverbial soccer ball rather than staying in their respective positions (acting rationally). So don’t get caught up in the hysteria – stick to the plan.
Dividend Paying Stocks and the Current Market Environment
Oh, what a difference a year makes. In 2022 growth stocks got pummeled and value/dividend stocks largely performed quite well. The opposite is currently the case. As noted above, sometimes a trend persists longer – overshoots what could be considered rational – solely because selling begets selling (just like buying can beget buying) …until it no longer does. That does not mean dividend stocks are ‘broken’ just like last year’s route of companies like AMZN, META, AAPL, MSFT, NVDA and others that dropped 30%, 40%, or in the case of META around 70% did not mean these great, profitable businesses were no longer sound. It is not unusual for last year’s ‘losers’ to be this year’s winners, e.g., CRM was the worst performing stock in the Dow Jones 30 last year, and it the best performing stock this year.
Often people ‘give up’ on a particular company, sector, or style just at the wrong time. Imagine having sold META below $100 where it was about a year ago (it now trades over $330). There are many great dividend-paying value stocks that have seen their prices crushed this year. Thankfully with dividend-paying stocks you continue to earn profits in the form of quarterly dividends that can be reinvested at lower prices for higher future potential income/capital appreciation.
Simply put, if dividend paying stocks are part of your investment program – and assuming you own the high quality ones (there are many high flying growth stocks that got crushed last year like PTON, BMBL, etc. that are down again this year – there’s a big difference between AMZN being down 50% and PTON being down 50% in terms of recovery potential), then think very carefully before you abandon this part of your portfolio. Dividend stocks were left for dead in 1999 after having performed terribly for years, then for the next decade, value dividend paying stocks materially outperformed their growth/non-dividend paying brethren. The vast majority of these stocks – be it financial, health care, etc. – are not ‘broken’, rather they are just out of favor. Just the whiff of a rate cut could turn the tables quickly, so don’t get whipsawed and sell just at the wrong time.
Of course, each investor’s circumstances are unique, so work with a qualified Financial Advisor if you are not sure how to best position your investment portfolio.