If you were an investor, that just got over your investing nervousness and waded into the markets in August this year, chances are that you’d have felt a blood-rush going into September and the early days of October. But then what? If you are like the “average” investor, chances are that you were spooked by the violent volatility and the precipitous drop that followed.
If you haven’t bailed out already, the big question on your mind probably is: When’s a good time to sell and exit? Well, hopefully this post will make you rethink that question!
Not “when” – but “should you”?
Stock markets across the globe have been extremely volatile over the past several months. For traders and investors with weak stomachs, it hasn’t been a smooth ride. As you watch your portfolio decline – slowly but surely – one couldn’t fault you for having second thoughts about staying invested.
One look at some of the major indices during the August through October time period, including the S&P 500 and the Dow Jones Industrial Average (DJIA), will have anyone convinced that it’s time to bail. But should you?
While this certainly has been a difficult time to be invested, the truth is that it could also be one of the most profitable of times to remain in the markets. Where some might see gloom and doom, savvy investors are seeing investment opportunities for which they’ve been waiting a long time. How come? To explain that, we’ll need to take a quick history lesson!
A look at past volatility
It’s often said that in investing, past performance doesn’t necessarily predict the future. However, there are invaluable lessons that traders and investors can learn from looking in the rearview mirror. In fact, ignoring volatility of the past altogether can have devastating effects on your portfolio. Since we started this post by looking at short-term volatility in the S&P and DJIA, lets look at past volatility in those two indices, and put them in perspective against the Volatility Index (VIX).
If you were a volatility-conscious investor/trader back in 2014, and remained on the sidelines after exiting the market, chances are that you’d be regretting your decision. During the course of your “absence” from the markets, a lot has happened to reinforce your decision to bail:
- Global growth concerns (Q1-Q2 2015)
- The Greece story (Q2-Q3 2015)
- China interest rates scare (Q3 2015)
- Tumbling oil prices (Q1 2016)
- Brexit (Q2-Q3 2016)
- US elections (Q4 2016)Britain’s snap election (Q2 2017)
- North Korean Missile “agreement” (Q3 2017)
- China slow-down concerns (Q4 2017)
- US Tax Reform Bill (Q4 2017)
- Trade war concerns (Q1 2018)
Both the S&P and the DJIA, along with other world indices, reacted to all of these events – both positively and negatively. And that created volatility (as measured by the green lines in both graphs above). And yet, the stock markets continued to grind higher (as highlighted by the black lines). A look back at volatility through the past 4 years or more clearly indicates that:
- Significant world events have a tendency of impacting global financial markets
- While there will be events that deliver negative shocks to the markets (Brexit), there will likely also be events (U.S. Tax Reform) that deliver positive stimulus
- While a spike in volatility does tend to spook the markets, decline in volatility adds fuel for markets to grind higher
And, as we alluded to earlier, one investor’s volatility is another’s opportunity!
Trading/Investing in Volatility
So, how should one go about profiting during volatile times? Well, there is no “simple” answer to that question, but one that comes closest is: Stay calm! Easier said than done, but the fact is that historical data from almost all the major indices of the world show that to be true.
To put things in perspective, consider how the S&P 500 bounced back after delivering one of its worst performances in recent memory (-37) in 2008. If you had bailed out then, unable to stomach the volatility of the Financial crisis, you’d have missed out on the significant upside that followed.
One easy way to play volatility is to invest in a handful of ETFs that do just that – they invest in volatility-sensitive themes. The 5 picks highlighted above have done pretty well, considering the past three months have been extremely volatile. Of course, you’ll need to consider positioning of these baskets of stocks within an overall diversified portfolio, as well as the impact that Management Expense Ratios (MERs) will have on your returns.
Author does not have investment in stock discussed in this article.
Also Read: Volatility Survival Guide