Lessons for Investors From a Wild First Quarter
For traders and investors, the first three months of 2022 has been an interesting quarter. It started with the major indices at record highs, despite some real issues brewing. Inflation, obvious to anyone who fed their families or filled their cars, was now also becoming evident in the official data. Russia had begun amassing troops on the Ukrainian border in a very threatening manner. And yet, with plenty of liquidity in the system and rates at, historically speaking, extremely low levels, stocks were still thriving.
That changed in January and February, but March saw equity strength once again, and the bounce-back has been almost as spectacular as the drop that preceded it. In one month, the major indices have regained around two thirds of the losses sustained in the previous two. Looking back as the quarter ends, what can we learn?
The first lesson to draw is that long-term investors should ignore the perma-bears and fearmongers who always get airtime when the market is falling. They were trotted out this time too, warning of a major recession as the Fed shifted track and sanctions on Russia began to bite. They are still saying that a major recession is coming, and they could be right, but if the history of the U.S. economy tells us anything, it is that it is resilient. America has an uncanny ability to focus on growth and corporate profitability through any kind of trouble. It accepts, adapts, and bounces back, no matter what the world throws at it.
To make that work for you, though, you have to understand the second lesson: In the short-term, stocks move, but not always upwards. The market sometimes goes down as well as up. When it does, however, it is almost always an opportunity to buy quality names for long-term holdings at a discount. Once you accept that, the logical thing to do is to retain or free up some capital during periods of strength in order to deploy it during weakness. That doesn’t mean wholesale selling, but selectively taking some profits to maintain a ten to fifteen percent cash position in your portfolio when the market is flying high.
Last, and by no means least, volatility among sectors and major indices varies but long-term trends generally hold up. There was a lot of talk early in the quarter about the underperformance of the Nasdaq and a big selloff in tech, but what most people forgot to mention was when that happened the last time, that an exaggerated decline followed three years or so of massive outperformance:
The above chart shows the Dow tracking ETF, DIA, in blue as compared to its Nasdaq equivalent, QQQ, in green. As you can see, while it is correct to say that QQQ showed a more exaggerated drop in the first two months of this year, it is really just part of a pattern of greater volatility that included spectacular gains since the covid dip.
If you joined in that move up, you are still better off than if you didn’t, and that is because it is about more than just a strong risk appetite. It reflects a fundamental and accelerating change in society. Tech and automation are becoming increasingly dominant in business and in our everyday lives. The tech sector, which is heavily represented in the Nasdaq index, is taking over from manufacturing and retail as the engine of America’s economy. Given that, while there will continue to be the kind of volatility that we have seen this quarter in tech stocks, they should form a part, if not the major part, of every portfolio.
All in all, looking back at an interesting quarter, the biggest takeaway is as old as markets themselves, a phrase printed in big, friendly letters on the cover of The Hitchhikers’ Guide to the Galaxy: DON'T PANIC! When you consider what has happened over the last three months, the most remarkable thing is that the broad index, the S&P 500, is down just 3.8% in Q1, a sign that ultimately, the market takes even momentous news in stride.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
Martin Tillier
Martin Tillier spent years working in the Foreign Exchange market, which required an in-depth understanding of both the world’s markets and psychology and techniques of traders. In 2002, Martin left the markets, moved to the U.S., and opened a successful wine store, but the lure of the financial world proved too strong, leading Martin to join a major firm as financial advisor.
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