Amidst all the negative news (coronavirus pandemic, market downturn, economic collapse, jobless claims, etc.), there are reasons to be positive. April has been a fantastic month for the stock market – historic really. Yes, we are still well off of our previous highs, but at least we’ve made progress.
Three weeks into April and all the major indices are up double digits. It’s left many investors scratching their heads in confusion. And some are just plain angry. The economic data has been terrible, and will likely get much worse before it gets better. They can’t understand why the market is going up with nothing but negative news coming out.
What we have to remember is that the stock market is a leading indicator, whereas most economic measurements are lagging indicators. In other words, the stock market is looking forward and economic stats are looking backward. So, the recent upward momentum is an indication that the market sees the business environment improving in the future.
Because stock prices are based in part on what companies are expected to earn, the market can indicate the economy’s direction if earnings estimates are accurate. We all realize the economy is in a bad spot right now, and the market realized this was coming two months ago. That’s why it sold off. We’re in the middle of an unprecedented situation, so it’s no surprise that the economy is in bad shape. But it won’t always be like this and the market knows it.
This disconnect between the current economic situation and stock market performance is what makes the market so difficult to time.
Another reason to stay positive is the market’s historical performance after sudden downturns.
And further, these downturns tend to be short-lived.
In most cases, stocks have actually seen 12-month gains. As we say, “this too shall pass.”
I don’t know what the future holds, especially in the short-term. Stocks may never again test the lows we experienced just a few weeks ago, but they certainly could. What I do know is that there will come a day when we turn the page on this historic downturn and never look back. The market knows that too, and that is why we invest in stocks.
Let me leave you with this graphic, courtesy of the Visual Capitalist.
Investing math when it comes to losses is simply brutal. Investor #1 (Sharon) sold out and did not recover over this period. Investor #2 (Barbara) held on and surpassed her initial investment, and outperformed Sharon by more than 100%.
Because Sharon sold, she no longer had that capital working for her during the recovery and it did irreparable damage.
This is a simplistic example, I know. And most of you understand this investing concept well, so I don’t mean to sound condescending at all. Sometimes it just helps to have a visual.
Dimensional Fund Advisors (DFA)