One Year Later: Seven Lessons From the Coronavirus Bear Market
by Charles Rotblut | March 25, 2021
Featured Tickers:
IWB
IYY
The current bull market marked its first anniversary this week. Since the coronavirus bear market bottomed on March 23, 2020, the S&P 500 index has jumped by about 75%. Other stock indexes have rebounded strongly as well.
Market anniversaries can provide a good time to look back and consider if there are lessons to be learned. Listed below are seven lessons from the coronavirus bear market I think investors should pay attention to.
- Health crises are different than financial and economic crises—The pattern exhibited by the U.S. economy has been V-shaped over the past year. This is because the economic downturn and the recovery have been attributable to the imposition and lifting of coronavirus shelter-in-place orders and capacity restrictions. In contrast, the economy exhibited more of a U shape (semicircle might be a better description) during and after the global financial crisis of 2007–2009.
- Don’t underestimate the power of not reacting—The stock market is often described as taking the stairs up and the elevator down. Last March, Mr. Market took a high-speed elevator down. He then found an escalator to ride back up. If you didn’t react, but rather just stayed with a diversified portfolio and an evidence-based approach, your portfolio most likely is worth more than it was at the start of 2020. A key part of successful investing is knowing when not to do anything.
-
Panicking is costly—Some investors reacted out of fear and pulled out of stocks. Given the high level of uncertainty and the magnitude of last year’s drop, such behavior was a case of history repeating itself. It’s not always easy to stay the course when it seems everything is plunging in price and a virus is rampant. Yet, giving into emotions is very costly. When investors panic, they tend to wait too long before getting back into stocks. This leads to a large and lasting forfeiture of wealth.
- Strategic opportunities get created—Though bear markets are scary, they create opportunities for astute investors who are willing to act when opportunity presents itself. Market declines put stocks on sale at discounted valuations. The shift in allocations provides opportunities to increase exposure to equities on the cheap. Similarly, savers can accelerate the timing of planned contributions so more money is put to work when the market is down.
-
Bears come with tax gifts—Since stock prices are lower, the cost of doing a Roth IRA conversion is lower too. The Internal Revenue Service (IRS) does not care how many shares are converted to a Roth IRA; the agency only cares about the total dollar amount converted. Tax savvy investors can also use bear markets to do tax-loss harvesting. This involves selling an investment specifically to realize a capital loss and then replacing it with a similar but not substantially identical investment. An example would have been selling the iShares Russell 1000 ETF (IWB) and buying, say, the iShares Dow Jones U.S. ETF (IYY) instead. (The iShares Dow Jones U.S fund holds 1,059 large-cap and mid-cap stocks.)
- Forecasts are often wrong—At the start of 2020, the coronavirus was a known risk, but market strategists weren’t talking about shelter-in-place orders and shortages of toilet paper—let alone three stimulus checks, vaccines and a full year of working from home being the norm for most office employees. If forecasters’ and pundits’ crystal balls were cracked then, what gives you any confidence that their soothsaying skills have improved since? Forecasts can provide context, but you should always assign a large margin of error to them.
- Downturns are an opportune time to reassess your tolerance for risk—Look at your brokerage and mutual fund statements from the first half of last year. What actions did you take during the coronavirus bear market? What did you avoid doing? How you actually react during a bear market is a better predictor of your ability to tolerate risk than a questionnaire asking you how much of a decline you think you can withstand. If you panicked during the 2020 crash, you may have taken on too much risk. If you found yourself opening up your wallet or simply not reacting, it’s possible that your tolerance for risk is higher than you think it is.
- Following the 2007–2009 bear market, William Reichenstein and Larry Swedroe shared five lessons investors should have learned from the global financial crisis.
- In 2014, I discussed how getting out of stocks during bear markets leads to a large forfeiture of wealth.
- Speaking of assessing risk, I discuss other factors that determine how much risk you can tolerate in this month’s AAII Journal.
- Also in this month’s AAII Journal are tips for taking the fear out of risk from AAII president John Bajkowski.
- Our next episode of The Individual Investor Show will include suggestions for getting family members started with investing, bond credit ratings and more. It will air on Wednesday at 7:30 p.m. Central Time.
AAII Sentiment Survey
Optimism among individual investors about the short-term direction of the stock market is at its highest level of the year. The latest AAII Sentiment Survey also shows an unusually low level of pessimism for the first time since 2019.
Bullish sentiment, expectations that stock prices will rise over the next six months, rose 2.0 points to 50.9%. Bullish sentiment was last higher on November 11, 2020 (55.8%). Optimism is above its historical average of 38.0% for the 17th week out of the past 19 weeks.
Neutral sentiment, expectations that stock prices will stay essentially unchanged over the next six months, increased 1.0 percentage points to 28.5%. Neutral sentiment remains below its historical average of 31.5% for the 58th time out of the past 62 weeks.
Bearish sentiment, expectations that stock prices will fall over the next six months, fell 3.0 percentage points to 20.6%. Bearish sentiment was last lower on December 18, 2019 (20.5%). Bearish sentiment is below its historical average of 30.5% for the seventh time this year.
Bullish sentiment remains at an unusually high level (more than one standard deviation above its historical average). The breakpoint between typical and unusually high readings is 48.0%. Historically, unusually high levels of bullish sentiment have been followed by lower-than-average six- and 12-month returns for the S&P 500 index.
At its current level, pessimism is unusually low. Historically, the S&P 500 has gone on to realize below-average, though still positive, returns over the six- and 12-month periods following such readings.
The ongoing coronavirus pandemic, including the distribution of vaccines, continues to have a big influence on individual investors’ outlook for the stock market. Other factors include the new administration’s policies, economic trends, the current level of valuations and economic stimulus.
For this week’s special question, we asked AAII members to share their thoughts about the Federal Reserve’s willingness to let inflation run moderately above 2% for a period of time without raising interest rates.
More than one-third of respondents (36%) say that they think this is a good decision for the Federal Reserve because it will allow the U.S. to get back to pre-pandemic levels. An additional 12% say that they think it is a good decision as long as interest rates are not kept low for too long.
In comparison, 23% of respondents see current monetary policy as potentially dangerous and are worried about the long-term impact. About 14% of respondents say that they think the Fed is overly optimistic in thinking that it can control the level of inflation.
Here is a sampling of the responses:
- “The Fed’s decision is good. The country and the markets truly need to get back to ‘normalcy’ where retirees, savers, pension funds, insurers, etc., can rely on longer-term fixed-income investments.”
- “Outstanding position. Stability is extremely important. Having a definite plan of action lets everyone recover make positive plans. This can only be positive for the stock market.”
- “They are in a no-win situation. You can’t run huge deficits indefinitely, as it must be paid back. If not, inflation or bankruptcy are your only options.”
- “I am appalled at this plan. This ‘moderately’ high inflation rate significantly devalues asset values over time.”
- “In my opinion, the printing of endless dollars can lead the economy into high inflation and more debt. Rome is burning and no one can put out the financial fire.”
- “I worry that the Fed, that thinks it can control inflation, is naive. Allowing inflation to increase a bit aggressively is inviting it to get out of hand quickly. It is an ‘easy to see’ consequence.”
- “I think it is good as long as the interest rate is not allowed to stay for too long.”
Bullish: 50.9%, up 2.0 points
Neutral: 28.5%, up 1.0 points
Bearish: 20.6%, down 3.0 points
Bullish: 38.0%
Neutral: 31.5%
Bearish: 30.5%
See more Sentiment Survey results.
March 18, 2021 A Quick Tax Update, Plus a Look at Projected Earnings for 2021
March 11, 2021 Diversification's Impact Depends on Time Measured
March 4, 2021 Warren Buffett Shares His Thoughts About Shareholders
February 25, 2021 A Look at the Bond Market's Expectations for Inflation
Discussion
MikeS from Indiana posted over 5 years ago:
I did a big ROTH conversion and bought some stuff while it was on sale. This bear did me good!
You need to log in as a registered AAII user before commenting.
Create an account