As we reflect on the past year, it is easy to recognize the significant market volatility caused by the COVID-19 pandemic. We must keep in mind that the 2020 recession was caused by exogenous factors like a natural disaster but in the form of a virus. It is unlike the Global Financial Crisis or recessions that stemmed from endogenous factors. Regardless of the cause of a downturn, there are lessons that can be learned in how to mentally and practically respond.  These takeaways can be applied to better prepare for the next bear market.

Lesson 1: Time in the market vs Timing the market

It is important to recognize that an investor’s time horizon will affect whether a buy and hold strategy will be successful. This strategy may be possible for long term investors who have the luxury to wait for a recovery. However, an investor with a short time horizon will have their patience tested when facing immediate losses. In the case of this pandemic, some investors may have felt forced to exit the market due to their liquidity needs. Clients should recognize that funds that are earmarked for immediate spending may not be suitable for market-related investments. Hence, capital should be separated into different ‘buckets’ and those assets with a longer time horizon can be invested with the confidence that time is on the side of the investor. There is an old saying that has proven useful for investors: “It is time in the market that matters, not timing the market.”

Lesson 2: Stay Put if you don’t have a plan

The initial reaction for some investors during a significant market drop is to sell into a panic. This action likely contributed to increased volatility during the COVID-19 downturn, which further fed into investor fear and anxiety.

However, without a clear plan of action, it may be best for investors to stay put. This means taking no action and remaining patient and disciplined as there are many factors to consider. For example, if an investor sold their equities investment, what would the cash be used for? Will they reinvest the proceeds in different sectors? If left in cash, do they have a defined target level to re-enter the market?

If proceeds are not needed for immediate spending, staying put to wait for a recovery or taking time to develop an action plan are valid options to consider.

Lesson #3: Invest in high-quality names

While it can be simple to “stay put” as noted earlier, it is predicated that the portfolio was soundly invested. Reaffirming with your advisor that the portfolio holds high-quality companies will provide investors the confidence that the stock should recover when the trajectory of the economy changes. If the portfolio is not appropriately positioned, measures should be taken to rebalance. This is especially true in today’s environment as many investors have been more open to owning more speculative investments at extreme valuations that could face deeper drops that may require more time to recover.

Lesson #4: Investing and the news

Having access to a variety of research and information can help an investor make informed decisions. However, given the number of new information sources from social media and news that may be filtering articles based on what you have read historically, investors are vulnerable to receiving the same repeating ideas. This could also leave them more susceptible to falling into a herd mentality if the news they read is generated by showing what has been most viewed. Ultimately, investors are reminded to not rely on a single source of information and take in different viewpoints. Working with an advisor who has access to third party independent research can help bring out different viewpoints.    

Lesson #5: Building Safety into Portfolios

Investors may question the effectiveness of holding cash and fixed income securities in a balanced portfolio. However, these securities proved to be valuable in smoothing out volatility during the latest bear market. Fixed income helped cushion the large declines in equities and prevented further net losses. Moreover, the allocation in fixed income can also be a source of proceeds if one finds opportunities to purchase what they deem to be oversold equities.

Lesson #6: The Relationship between the Economy and Market

It is important to recognize that the market and economy do not necessarily reflect one another. As we saw in 2020 the S&P500 ended the year at an all-time high despite the economy showing little improvement. This can be attributed to the idea that economic indicators are backwards looking and stock markets are forward-looking. Moreover, the stock market measures and reflects the valuations of the largest publicly traded corporations, many of which were well-positioned with cash or the resources to pivot their businesses to survive a recession. This is in contrast to the economy, which reflects the workers, citizens, and small businesses of “main street” that generally have less flexibility to survive downturns. 

Needless to say, many of us want to forget the rough ride that was 2020 and move on to 2021.  However, as hard as it may be to relive, we encourage you to take a step back and see what your investment takeaways have been in a year that will go down as one of the most tumultuous in recent memory.