Noel Whittaker's Blog The world is facing challenging times, and as usual, I’m getting a raft of emails from people asking whether they should quit their investments before it’s too late. The other question many are asking is what likely effect the situation in the Ukraine may have on stock markets.
It is normal to feel apprehensive when the market has a downturn, especially when accompanied by the threat of war. I understand that. But I am comforted by the latest research from my long-term friend, Ashley Owen of Stanford Brown Private Wealth. Ashley has analysed 27 military crises since the 1930s (including the German invasion of Poland that led to WW2, Pearl Harbour, the Korean War, Vietnam, the September 11 attacks, and several Russian military invasions and attacks), tracking share market reactions with a particular focus on US and Australian markets.
His conclusion is that sudden military crises inevitably trigger abrupt selloffs in share markets, but almost all recover to above their pre-crisis levels within a few months, including during WW2.
The reason for this consistent rebound is that military activities generally lead to increases in demand, spending, company revenues and profits. They are therefore positive for share markets, especially Australia, since military activity leads to higher commodities prices. The initial share selloffs are an understandable human reaction to the shock of the event, and the associated alarm, stoked by the media reaction. Historically, however, military crises have consistently represented buying opportunities for long term investors.
In times like these is useful to restate some fundamental investment principles.
- The major factor that determines your wealth is the rate of return you can achieve. You will never get a decent return leaving money in the bank, which means you need to move to assets such as local and international shares that historically have given the best returns. Because these assets offer liquidity, they are also volatile, which means it is normal to expect regular and sometimes unexpected market movements.
- You have to stay in the market. It’s tempting to want to cash out and sit on the sidelines waiting for markets to bounce back, but historically the bigger the fall the bigger and faster the bounce-back. Almost invariably, people who try to time the market miss the bounce-back and find themselves stranded.
- Volatility is normal. The Australian share market has averaged 9% per annum (income and growth) over the last 120 years. But that doesn’t mean you earn a steady 9% every year: in some years it may give you 15% to 20%; in other years you may lose 10% or more. That’s the nature of markets. Returns tend to even out over time across the market as a whole.
- The price of a share does not always reflect the value of the company. Some quality companies (like Sonic Health and Suncorp, to mention just two) have recently fallen around 10%, yet their balance sheets are still in good shape and they should remain good long-term businesses. Investors can act in strange ways: they love to buy when the market is booming and shares are fully priced, but shy away when prices fall and the same shares are at sale prices. This means that sometimes you can pick up good shares at a discount.
- Investment is a marathon, not a sprint. To quote Professor Paul Marsh of the London School of Business, “The long-run attractiveness of equities, in my view, is undiminished. You should take a long term view, and the long run is at least 20 years. You should focus on time in the market, not on timing the market.”
It’s impossible to say exactly when the current market turbulence will settle. However, we can be confident that the share market will eventually recover — it always has done. Good quality companies running real businesses and making sustainable earnings and dividends should recover well, as they will once again be sought by investors.