Keeping cool when volatility heats up

A perspective from E*TRADE 09/20/21

A sharp sell-off is never the way investors like to start the week, but when the stock market is falling more and faster than it has in a while, it’s important to maintain some perspective. 

Here are a few factors that may have been weighing on markets amid Monday’s downturn: 

  1. What goes up. Markets don’t go straight up forever, and this market had been on a major roll. At the end of August, the S&P 500® was up 20% for the year—its biggest January–August return since 1997 and its sixth-biggest since 1960.1 
  2. Seasonality. Whether or not it’s a self-fulfilling prophecy, September is, historically, the US stock market’s weakest month of the year, and October is its most volatile. Investors tend to get nervous (and sometimes overreact) during this time of the year.
  3. Overhanging uncertainties. The COVID resurgence and inflation were thunderclouds hanging over the market even as it continued to hit new highs this summer, and they’re still making investors uneasy about potential storms.
  4. The China factor. On top of the Chinese economy’s recent softening, reports that a major Chinese property developer was facing a debt crisis triggered concerns that it could default and cause turmoil in markets across the globe.2

In other words, take an arguably overbought market that had been in the process of pulling back since the beginning of September and throw in a “surprise” bearish catalyst, and you have the recipe for the type of market action we saw on Monday. 

While the market can certainly continue to fall, the fact that it has gone up so far and for so long tends to magnify the psychological impact of every downturn. Some perspective: As of midday Monday, the S&P 500’s current pullback from September 2’s record close was only its second-biggest downturn this year, trailing the February–March decline, and only slightly bigger than the ones in May and January. 

The long-term outlook

The market has been breaking records left and right for quite some time now, and pullbacks like we saw Monday are part of a healthy market. Certainly, price swings are never comfortable, but investors should keep in mind that periods of volatility like this are not uncommon and should be taken in stride. 

Here are some important points to bear in mind:

  • Asset allocation and diversification are powerful tools. Diversifying a portfolio across asset classes and investments is the fundamental framework of a long-term investor and can help provide guardrails for weathering all market conditions. 
  • Assess risk tolerance. During periods of record-setting equity performance, it’s easy to lose sight of how much risk you are truly comfortable with. Investors with overly aggressive asset allocation may decide they want to adjust their mix to something more conservative. Alternatively, investors who are comfortable with their risk level may want to reassess the performance of riskier assets and rebalance accordingly. Those with managed accounts can view their allocations on the Portfolios page. For those with standard brokerage accounts, E*TRADE has a portfolio analysis tool that can help: When you’re in a particular portfolio, click on the Analysis tab and scroll down.
  • Keep emotions in check. This is the biggest challenge. Just as investors should be cautious about chasing returns in a market at all-time highs, letting emotionally charged events and panic-inducing headlines influence trading in a “risk-off” environment could end up doing more harm than good. History has proven that trying to time when to enter and exit the market is typically a fool’s errand. 

Bottom line: Maintain a long-term perspective. Investors with long-term horizons shouldn’t be surprised to see volatility from time to time. There will always be something moving the markets in either direction at any given time. Don’t let near-term noise derail your plan and ignore the day-to-day bumps. 

 

  1. All figures reflect S&P 500 (SPX) monthly data, December 1959–August 2021. Supporting document available upon request.
  2. CNBC, “China’s embattled developer Evergrande is on the brink of default. Here’s why it matters,” 9/16/20, https://www.cnbc.com/2021/09/17/china-developer-evergrande-debt-crisis-bond-default-and-investor-risks.html

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What to read next...

The value of your portfolio can increase or decrease for any number of reasons. Economic trends, company events, and interest rate changes are among the common drivers of fluctuations in your investment account. While you can't prevent volatility, you can help manage it through diversification.

Needless to say, investing during periods of market volatility can be unsettling. No one likes to see their account value dip—even temporarily. However, there are a time-tested set of principles you can follow that can help you stay focused on your long-term goals and navigate through the near-term choppiness to potentially smoother waters.

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