The stock market experienced significant drops on Monday, causing concern among investors. The S&P 500 stock index fell by more than 3 percent, a rare occurrence last seen on Sept. 13, 2022, according to Howard Silverblatt of S&P Dow Jones Indices.
As #stocks bounce back, led by #Japan, many will be tempted to dismiss the #volatility of the last few days as typical of the wild west nature of less-liquid, trader-led #markets.
A better approach would be to focus on the importance of restoring the dual anchors of solid #growth…— Mohamed A. El-Erian (@elerianm) August 6, 2024
Many investors rushed to check or trade their investments using platforms from Charles Schwab, Fidelity, and Vanguard. However, selling during market downturns is not always the best strategy.
Here's the financial advice I'll be offering friends: "Go fly a kite or wander among beautiful buildings and check in with the market again tomorrow."https://t.co/zhvyvmRkMw – by @ronlieber
— Justin Wolfers (@JustinWolfers) August 5, 2024
Selling stocks is only advisable if you have reliable knowledge of a prolonged and significant market decline, which most people lack.
Even those who predicted past market declines often cannot differentiate between skill and luck. Professional investors, including hedge funds, frequently react to global events with rapid trades, often using programmed algorithms.
At the start of July, speculative investors were net short more than 180k contracts ($14 billion) betting on a weaker Japanese Yen. By last week those positions had been cut to roughly $6 billion.https://t.co/WgXasRmeSl pic.twitter.com/3ET2K4qwPn
— Charlie Bilello (@charliebilello) August 6, 2024
However, this sophisticated trading does not necessarily yield better results than investing in an index fund that tracks the overall stock market.
The best course of action during market volatility is often to stay calm and avoid making impulsive decisions. Historically, a steady approach tends to be more effective than attempting to time the market.
The S&P 500 is down 8.5% from its closing high on July 16, the largest drawdown of the year. The index is still up 9.6% year-to-date including dividends. Suffering through drawdowns is the price of admission for long-term investors, without which there would be no reward. $SPX pic.twitter.com/sCot3IdIia
— Charlie Bilello (@charliebilello) August 5, 2024
Carry trades, which involve borrowing at low cost in one currency to achieve higher returns from investments in another currency, contributed to the recent market mayhem.
Traders borrowed Japanese yen, expecting the currency to remain cheap against the U.S. dollar and for Japanese interest rates to stay low. However, when the Bank of Japan raised its interest rates slightly last week, the Japanese yen surged against the U.S. dollar.
Stay calm amid market turmoil
Traders scrambled to sell higher risk, dollar-denominated assets to cover suddenly higher borrowing costs, losses from foreign exchange rate changes, and losses in asset values as share prices plunged. Carry trades tend to make the most sense when foreign exchange rates are relatively stable and investors can tap into higher-yielding market opportunities. The recent market upheavals obliged traders to cover their debts by buying yen and other carry trade currencies and selling relatively more of the higher risk assets they had bought under more favorable conditions.
While financial markets appeared to have calmed Tuesday, with Japan’s Nikkei 225 index gaining 10.2% and other markets mostly higher, analysts are divided over whether this bout of volatility has passed or if there is more to come. Carry trades remain a potent force in financial markets and are likely to remain a wild card for investors, especially in times of high market volatility. To shield your pensions and investments from a stock market crash, it is crucial not to panic-sell during market crashes.
A buy-and-hold strategy can help avoid crystallizing losses. Spreading purchases over time can help average out the price paid, and many investment platforms offer regular investment services that automate this process. If you are nearing retirement, consult a financial adviser about how your pension fund is invested.
Many plans automatically shift investments from equities to bonds as you approach retirement age to reduce risk. For retirees, actions depend on the type of pension you have. Defined benefit pensions or annuities provide a guaranteed income regardless of market movements, so there is no need for action.
For drawdown schemes, a diversified strategy can minimize losses. While sharp market declines are challenging, panicked reactions can exacerbate issues. Maintaining a long-term perspective, diversifying investments, and consulting with financial advisers can help protect and potentially grow your assets even during turbulent times.