This stock market crash is looking more like a short-but-deep correction than a conventional bear market. Since its March 23rd trough, the market has been relentlessly going uphill. As of today, the S&P 500 is just about 12% off from its prior peak level. Not that I am predicting a full recovery soon. Or even ruling out the possibility of a downturn ahead. But so far it sure looks like a V-shaped recovery in the offing.
Related to this, Ken Fisher (@KennthLFisher) shared two interesting charts on his twitter feed recently. Here is the first one:
This chart compares the current decline with the historical average S&P 500 correction. You can see that today’s market declined much more severely than in a typical correction, but it appears to be on pace to recover as if it were just another correction. From duration perspective, it looks like a correction. From severity angle though, it is clearly a bear market.
This next chart makes it clear how this decline looks so very different from a regular bear market:
This decline is as severe as a good old bear market, but it seems to be so compressed in time (in relation to the average) that it appears like a short spike. At least, so far.
A market correction is defined as a decline that exceeds 10% peak to trough but does not go below 20%. Anything that exceeds 20% decline is a bear market. I shared a chart last year on frequency and duration of stock market drops. As you can see from that chart, on average a correction lasts about 5 months (top to bottom) whereas a typical bear market is much longer (about 14 months of decline).
I have enormous respect for Ken Fisher’s work. I follow his writing closely and have learned a lot from his books on investing. His book, The Only Three Questions That Count, remains among my top ten favorite investing books. His is a unique talent, no doubt. [I’ve written about him earlier here.] He believes that this market decline will turn out to be like a short-term correction, albeit with the severity of a bear market. So far, his reading of the tea leaves has been right on the mark.
However, one thing that differentiate my investing style with Mr. Fisher’s is how we anticipate market declines. He does sophisticated market/macroeconomic research to try to foresee an imminent bear market (if there’s one) and adjusts his investments accordingly. I, on the other hand, just stay invested in the businesses I own and keep some cash on the side for market drops. I try to play the hand I was dealt, while he attempts to predict what the next hand might be.
Mr. Fisher’s goal is to avoid lengthy bear markets in order to generate better than average market returns. This is a difficult goal as it involves predicting market moves. He certainly does a much better job than most other experts, as I pointed out in this post. He called the 2000-02 bear market correctly, but he also missed the 2008-09 financial crisis.
My goal is simpler though. I try to find good businesses that would do well over the long-term and hold on to them for years. I plan to ride out any storms that come my way.
This correction v bear market discussion is interesting … but does it change anything for my investing routine? Not really. My investing doesn’t change whether we are in a deep-yet-brief correction or a multi-year bear market. Either way, I continue to find durable well-managed businesses to own and I hold on to them irrespective of current market cycle. I also keep a portion of my portfolio in cash (see my portfolio here) so when prices decline, I am able to scoop up some bargains.
In a post last month (When’s the market bottoming?), I pointed out that I could never predict (except with the hindsight) how long would it take stocks to recover. Because I invest my dry powder cash in a mechanical manner (e.g. invest X% when the S&P 500 goes down by Y%), the amount of dry powder I’d have deployed at any given time is simply a function of how much the market has dropped from its peak. It wouldn’t matter when I expect the market to turn the corner, or how quick (or protracted) the decline has been. So if it were an average bear market (see Chart B above), it would take me up to an year to deploy all my dry powder. It turned out however that this was a sharp and short plunge and thus my cash got invested in about a month. No sweat, though. This is exactly how I meant it to be.
Today, 70% of my dry powder is invested in stocks. I had a very busy March this year. Between February 21st and March 23rd, I was busy picking stocks. In about a month, I bought several hundred thousand dollars’ worth of individual stocks.
How I identified good stocks so quickly? I didn’t. It was an on-going process. I spend far more time monitoring how my businesses are doing than watching the stock market itself. I read quarterly reports (10Qs), listen to CEO/CFOs’ quarterly commentaries, monitor their press releases, and once a year read annual reports (10K) and proxies (DEF14 forms). For each stock I own (and any other that I am researching), I keep notes on their quarterly performance, capital allocation decisions, any management changes, and generally what I learn from their SEC filings. With my notes handy and access to current valuations (via Morningstar and ValueLine subscriptions), it doesn’t take me long to identify which stocks I want to buy. As you can see from my March 17thpost, most of the companies I bought were already in my portfolio. I was very familiar with their business models and felt comfortable increasing my ownership in them.
Bill Miller—another very successful long-term investor that I look up to—wrote this in his 1Q market letter (April 20, 2020 ):
There have been 4 great stock market buying opportunities in my lifetime. The coronavirus has given us the 5th. […] The market may have bottomed at an intraday low of 2191 on March 23 or it may not have. I do believe that shares bought at these prices will prove to be quite rewarding over the next few years, and perhaps a lot sooner. If you missed the other 4 great buying opportunities, the 5th one is now front and center.
He’s been buying stocks. I take inspiration from him.
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