Market volatility

How to keep calm during Market Volatility?

What is market volatility? To answer briefly, it is when market prices change rapidly during a short period of time. It is impossible to discuss the market volatility without discussing both the negatives and positives.

The book “The Intelligent Investor” by Benjamin Graham says that the main risk concerning average investors is not the purchase of expensive stocks, but that of purchasing low-quality equities in the time of high business valuations. An example of this would have been last year. During favourable business conditions (end of a business cycle), investors view securities of inferior quality as safe due to recent earning announcements and optimistic projections. However, when business conditions change, the valuations change – leaving low-quality and speculative trades in bigger losses as compared to equities of strong and profitable companies This phenomenon has been documented throughout the stock market history (and is also evident by the first half of 2022), whereas the opposite has been true as well: equities bought at the time of unfavourable business conditions, with lowered valuations, lead to higher returns regardless of the composition of the portfolio. It seems, at least academically, that volatility can be investors’ best friend.

However, market price volatility can exhaust even the most emotionally strong and experienced investors. It can be very challenging to keep calm when your portfolio posts a positive or negative many times a week (although the positive return is, of course, pleasing to the eye). I am unfortunately also very familiar with the negative feelings, and it can be even tougher to see the value of your portfolio drop by 10-20% in a matter of weeks. One thing I always say (although not always successful in following my own advice) is that the value of companies does not change 20-50% in a matter of weeks. Value and price are different things as value is derived from the long-term prospects of the company, while prices are quoted in the short-term. Therefore, one way to keep calm is to ignore this short-term price volatility altogether. However, ignoring market movements is sometimes not an option.

Real estate and the stock market are very different places to invest, however, in the time of market volatility or short-term market downtrend, a comparison of these wildly different markets can be made. One way to compare real estate and the stock market is through the short-term fluctuations of apartment prices of apartments listed on the stock exchange (as companies are) the price would be quoted by them and it would fluctuate every hour, every day, and every month. The market price of an apartment could be then impacted by random variables (as are stock prices): expectations in the economic out-look, neighbourhoods, time of the year, winter cold etc. 

Similar things are constantly happening to equity prices, completely random noise can drive the prices down or up of individual stocks as well as the overall market. A very big drop in the price of an apartment can happen if an apartment in close prox-imity comes up for sale at a very low price if the owner is forced to sell. Comparably this will impact other apartment prices in the neighbourhood, however, this will not impact the value of other apart-ments. It would of course make sense to buy the apartment for a bargain price. Or in other words, Volkswagen stock has plummeted more than 25% from the beginning of the year (as of 22.07.2022), but that does not mean that the value of the company has dropped by 25% because that is impossible. But what it means is that share prices of larger-than-life institutions cheaper are cheaper now than they were a year ago and are ready to be plucked by the long-term and results-orientated investor.

In conclusion, market volatility usually brings out very good investment opportunities and the recent downturn can be the best thing for a long-term investor and especially for the portfolio of a rational or “cool-headed” investor. However, it is also impossible to time the market successfully all the time as constantly waiting for a recession can make you miss tremendous market upturns. The same can be said while waiting for positive news during a recession in order to avoid catching a “falling knife”. How-ever, the best advice (as always) for market volatility comes not from me, but from Warren Buffet:

“Be fearful when others are greedy and be greedy when others are fearful”.