We are writing a special 2nd edition newsletter this month in response to recent market events.
Three Things
If your house caught on fire and you could only grab 3 things before running out, what would they be? Whatever those would be for you, you would quickly prioritize what you truly valued, what really mattered. Things like your kids and your pets. The other stuff would be inconsequential in comparison.
When the stock market catches fire, what are the few things that really matter? What are the factors that you need to ‘hold on to’ in order to make sure you come out of the blaze alive? And what can you leave behind knowing you’ll be just fine and as long as the basics are taken care of?
Let’s use the recent market meltdown as a prime example. Two weeks ago today the market imploded, DOW down over 1,000 points at one juncture, the volatility index, or VIX, spiking to one of its highest levels on record. I would note as a relevant aside, today the broad market is higher than it was at the Friday close before that fateful Monday opening, with many stocks up 20%, 30% or more from their Monday, August 5th lows. NVDA is up over 40% from its Monday low’s. That is 40% in 2 weeks, not 2 years (which would be a good return over 24 months, let alone 10 trading days).
So, what are the essentials you should be holding on to when such infernos hit the market as they do from time to time? Here’s what you should not be focused on:
1. The stock price at the time – as we are learning (again) in real time, that price could be dramatically different in a few days.
2. Whatever the headline is which is driving the market. First, it may not even be what is really moving stocks, and most importantly, it will likely fade within a brief period of time (remind me what Buffett’s selling of AAPL months ago had to do with the market sell off a week ago Monday? Oh, BTW, AAPL is up materially since that panic selling).
3. Your emotions (except as a contrarian indicator – if you are afraid and feel like selling, you should probably be buying, or at least, holding).
What then are the essentials to focus on?
1. Your financial plan and long-term cash needs. To the extent you have a good plan in place and no material changes to your circumstances, then no action is required (other than potentially taking advantage of stock price declines to acquire more shares in high quality businesses). If you need more cash in the next couple years than you originally planned, then you should be shifting from stocks to short-term fixed income regardless of current market conditions.
2. The fundamentals of the companies you own (which rarely change in a short period of time, let alone in a day). Is the company still able to comfortably pay its dividend? Check. Is its balance sheet still strong? Check. Do consumers still like their products and services? Check. It will not take you long to verify that nothing has changed with basics of the business.
3.That’s it. Everything else is just noise.
Material stock market declines – whether one day events, or across a year – happen from time to time. They always have and very likely always will. The only question is how you react to it. On Monday morning 2 weeks ago, while many investors around the country were selling in a panic (likely for no good fundamental reasons, rather just to satisfy some emotional need to take action), I felt like a kid in a candy store. During times like these I literally feel the opposite emotions that most investors feel – I have zero fear or angst, rather I feel joy and happiness that I can buy great companies at lower prices. That morning NVDA traded down to the low $90s, now it’s $130. If you could advise your 2 weeks ago self, would you tell him or her to be afraid and sell in a panic, or to be confident and calm and buy as much NVDA as possible (assuming it was a prudent part of your financial plan)?
I realize it is easy in retrospect to see that was a great opportunity, but even if you didn’t catch an exact low, the point is that when stocks are down materially – due to a pandemic or a recession or whatever else is causing price declines - it is invariably a good buying opportunity in retrospect. Which is totally logical, since the lower the price you pay for something the higher the potential future returns – and stocks broadly speaking eventually hit new highs, so the math is pretty easy. It is the emotions that can be hard.
In life we tend to overcomplicate things and get in our own way. Keep things simple, try to set emotions aside, and approach challenging times in the stock market as opportunities rather than potential threats. Your future self – and bank account – will thank you.