Records Are Made to Be Broken
Records are falling around the globe – and not just at the Olympics. Olympic athletes have set 20 world records in Tokyo. In the economy, the National Bureau of Economic Research confirmed that last year’s recession ended in April 2020, making it both the sharpest and fastest in history. Moreover, in June, the level of Real Gross Domestic Product (GDP) exceeded its pre-pandemic peak. Finally, equity markets achieved record highs seven times in the month of July!
As investors look forward from here, they can take a few lessons from the Olympics:
1. Records are Made to Be Broken
When the equity markets have reached an all-time high, it has historically led to further gains (and thus, additional new highs). Indeed, there is an entire cottage industry within investments that subscribes to the view that the “trend is your friend” and that the best times to invest are, in fact, when the market is strongest. From January 1, 1988 through the present, the S&P 500 has experienced more robust returns after reaching a record high than investing on any random day. This is similar to a long-distance runner who, after making it through the first few miles, achieves a “runner’s high,” allowing the remaining miles to seem effortless.
Source: Standard & Poors
2. Learn From Yesterday’s Race, But Focus on Tomorrow’s
Nevertheless, new records also bring a sense of remorse for investors. Many find themselves looking backward, wishing that they had put more money to work earlier. For the first 12-months of the market’s recovery, some investors felt that it was too uncertain to invest; now, they feel it is too late. There are plenty of pundits currently promoting this viewpoint. The financial media always seems happy to provide a microphone to those offering an ominous headline like, “we’re due for a pullback” or “everything is overvalued.” We categorize these “experts” into two broad camps:
- Permabears – Investors who have for years (if not decades) called for significant declines in the market while the markets have kept climbing. Historically, market participants have been better off ignoring these pessimists and staying invested for the long term.
- Captains Obvious – Investors that are simply playing the odds that, inevitably, there will be a pullback. Since 1980, the market has experienced an intra-year decline every year. The average annual drawdown over that period is ~14%. However, the rationale for the decline is rarely known in advance, and its timing is extremely difficult to predict. These prognosticators will likely be right at some point, but waiting for more minor pullbacks can often come at the expense of higher long-term gains.
Source: Standard & Poors
3. Compete in More than One Event
Many of the athletes competing in Tokyo participate in multiple events, reducing the risk of one bad race keeping them from Olympic glory. The market surely carries risk over the near term, and we believe that portfolios can be managed dynamically to help moderate them. We believe this is best accomplished through diversification, rather than through divestment or market timing. For example, investors can own both growth stocks (which do well in periods of slowing or low economic growth) with value stocks (which do well in periods of higher interest rates and above-trend economic growth) rather than being all-in on either one. Similarly, with the short-term direction of interest rates uncertain, investors can complement traditional fixed-income investments, such as treasuries and high-quality corporate bonds, with high-yield or inflation-sensitive bonds or income-producing real assets, like infrastructure and real estate. We also can rely on sources of return that are less correlated to the overall market direction.
It is often said that investing requires a mindset more like a marathoner than a sprinter. There are other key lessons that investors can learn from Olympic athletes. It requires preparing a portfolio for multiple outcomes, remaining focused on long-term results, and adapting to short-term challenges. Most importantly, it requires being in the game rather than watching from the sidelines.