Broker Check

Volatility: The Subscription Price of Investing

| April 05, 2021
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Most of us are getting used to a barrage of monthly subscription costs adding up on our bank statements. Whether it’s the regular unveiling of new video streaming services for your (or your kids’!) favorite shows, and applications moving from one-time purchases to automatic monthly or annual subscriptions, companies are enjoying continuous revenue streams and consumers are getting use to adding them to their budgets.

Consider treating stock market volatility as the regular subscription price you pay for investing in the stock market for long-term returns. As you’ve probably heard, higher returns mean higher volatility. And in a low interest rate environment, those that want the uppermost of security will get the bottom barrel of returns. Just take a gander at your interest rate on your savings account. Yep, not much more than zero. For those who want higher returns they will need to treat market swings as an integral feature of investing. It’s just the way it works.

JP Morgan has an excellent chart that shows annual returns and annual declines of the S&P 500 (the index for the largest stocks in the US) since 1980.1

There are several lessons to draw from this. First, notice how often big declines happened the last forty-plus years during a year where the market ended the year higher. As the chart shows, even though the market averaged an intra-year decline of 14.3%, the market only ended lower in 10 out of the 41 years. Surprising to some, annual returns were higher 75% of the time during this period.

Secondly, imagine selling if the market went down 10% or more during the year fearing that the market might enter a long-term bear market. If you did so in years where that occurred, you would have missed out on the calendar year return of 26% in 1980, 15% in ’82, 31% in ’97, 27% in ’98, 20% in ’99, 26% in ’03, 23% in ’09, 13% in ’10, 13% in ’12, 10% in ’16, and 16% in ’20. Nearly half the time! 11 out of the 23 times where the market declined 10% or more during the year it was up 10% or more by the end of that very same year.

Thirdly, big dips of 20% or more don’t always mean further multi-year declines. While the year of the infamous one-day market crash in 1987 suffered a drawdown of 34%, the market ended the year 2% higher. Sure, these kinds of intra-year declines can make for bad years like ’01, ’02, and ’08 demonstrate, yet massive intra-year declines can also end well like ’09 and as recent as last year!

What happens in the past is not predictive of what might happen in the future, but this four-decade history of stocks in the largest US companies, though not exhaustive, reveal that volatility—like returns—is normal. Say it with me, “Volatility is normal.” Remember those three words next time stocks plunge. Volatility is the subscription price of stock market investing.

If you “cancel” your subscription due to volatility and bail on the S&P 500, you will likely say goodbye to high investment returns. And by “canceling” too early, you may find that not too far into the future you might have gained back or exceeded what you had originally invested. Plan and budget for the ups and downs of your investments as the “cost” of long-term returns. Yes, the swings during the year printed on your monthly statement are much bigger than a $9.99 monthly budget item, but the percentage returns of consistent long-term investing have rewarded S&P 500 participants nicely.

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Sources:

[1]         https://am.jpmorgan.com/us/en/asset-management/adv/insights/market-insights/guide-to-the-markets/

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