Mar 20, 2020 | 10:30 pm
What's going on with financial markets?
Many of you are likely looking for some guidance on what to do next as financial markets melt around us.
I should preface my comments by pointing out that they focus on investing. They don't address the human tragedy that is unfolding as a result of COVID-19. That tragedy is real, and will only get worse.
The first important observation is: Don’t panic! Over the next few weeks or months markets will be very volatile and may exhibit further declines. Those declines may be severe. But markets will recover. The recovery may begin within a few months, assuming COVID-19 is controlled through public health actions. The recovery may begin once a vaccine is developed, which may take up to 18 months (or more). Whether the recovery is fairly swift (known as a V-shaped recovery) or slower (U-shaped), it is coming.
My specific advice depends on whether you pursue a primarily active or passive investing strategy.
If you’re a passive investor there’s good news and bad news. The bad news is that your investments took a big hit. The good news is that you shouldn't care. As a passive investor you’re taking a very long-term view. The most likely outcome is that two decades from now you’ll look back at this time as pivotal, not because it devastated your nest egg but because it allowed you to invest at lower security prices—effectively getting bargains. Yes, markets may dive even lower than they are today, and your nest egg will look even poorer. But every investment you make over the next few months, whether through a retirement plan or regular investment account, will be made at a much more favorable price than you would have gotten just two weeks ago.
If you’re an active investor, there’s good news and bad news. It’s good news if you're a truly capable active investor, because that means you correctly predicted the downturn, trimmed your riskiest positions, and are ready to swoop in and make a fortune buying undervalued stocks. It's bad news if you just discovered that you're not as good at active investing as you thought, and you lost a lot of money. This can be a very humbling experience, but rest assured that you're not alone. For the past decade many people made money and patted themselves on the back, not realizing that it's very easy to feel like a skilled active investor when markets are on an unprecedented winning streak.
Very few people have the experience, time, and inclination to be fully committed and successful active investors. When markets turn against us we find out very quickly whether our recent successes have been more luck than skill. If you didn’t see the crash coming there’s still no reason to panic (partly because it’s too late). Some of your investments may recover nicely over time. If you're very concerned you can try to unwind risky positions, but that means locking in losses. Those losses come with (a somewhat thin) silver lining: they can be used to offset future investments gains.
Most importantly, if you just discovered that active investing is not for you, it's not too late to revisit becoming a passive investor.
The key for all investors is to remain calm and continue to execute your long-term strategy, making steady contributions to retirement plans, keeping in mind the importance of low fees, and broad diversification. If you're a passive investor, look for battered mainstream index funds. If you're still committed to being an active investor, look for individual securities that may do well under current circumstances and/or once a recovery begins. If you're a physician or medical science researcher you may have a comparative advantage over other investors, as your understanding of medicine gives you a better perspective regarding COVID-19 disease progression, and possibly useful knowledge on the pharmacology side. You may even be directly involved in some of the frantic vaccine research that's going on. Keep in mind that if you're an insider you may not be allowed to initiate financial trades based on your privileged access to information.
As financial markets decline, opportunities arise to buy undervalued securities. If you're sitting on a pile of cash, consider investing some of it. If markets decline further, invest some more. If you've set aside a healthy rainy-day fund, consider re-purposing some (but not all) of it for investments; making sure you retain enough cash for emergencies. If you have the option of putting in a few more hours at work in exchange for more pay, you can deploy those extra earnings to great effect at bargain prices. If your family circumstances allow, focus on generating and deploying as much cash as you can over the near-term.
Psychologically, it's common to become more conservative as markets decline precipitously; this is a normal response to higher perceived risk. But from an investing perspective, this can be the best time to be more aggressive.
Finally, a shout-out to new friends. In mid-January, 2020, I had the honor and pleasure of presenting personal finance and investing content at the Infectious Disease Society of America (IDSA) Clinical Fellows' Meeting. I'd like to take this opportunity to thank the many infectious disease specialists who are now on the front lines of the global fight against COVID-19. Thank you and be safe!