Of Pandemics & Panics

Fears and realities of the covid-19 pandemic led to another rough week for equities. Many major equity indices are now down 30-40% from just a month ago and causing widespread investor panic. Our experience is that declines of this speed and magnitude can tempt even the most disciplined investors to change course.


Before assessing where markets are and how to respond, it is worth noting some of my beliefs about equities:

  • Equities are a long-term investment. Historically, equities have outperformed fixed-income and cash by a wide margin, but they come with quite a bit more volatility and sometimes underperform other asset classes. I often say that volatility is the price of admission for those higher expected returns and discourage making any equity allocations with capital that is needed within five years.
  • Equity exposure should be diversified, so that no single stock or industry can permanent damage a portfolio. There are often one or two industries that get decimate in bear markets (tech and telecom in 2000, financials and real estate in 2008, and now energy and airlines).
  • Asset allocation is important. Even though many equity indices are down 30-40% from just a month ago, fixed-income and alternative investments provide ballast to help portfolios make it through difficult times.
  • It is nearly impossible to consistently guess when the market will go up and when it will go down (especially after expenses and taxes). Study after study indicates that committing to a strategy produces better results than rotating strategies or attempting to time the market. Many investors often counsel that the best strategy is the one that you can stick with and that “time in the market” is more important than “timing the market.”
  • Volatility produces opportunities for tactical moves such as tax-loss harvesting and rebalancing, among other things.

Although simple, concepts like diversification, asset allocation, and committing to a single strategy have stood the test of time and many bear markets. At a minimum, they prevent catastrophic losses.

Bear Markets

Of course all of the above sounds nice, but it can be difficult to remain disciplined during uncertain times. Every bear market is unique in some way and the covid-19 pandemic is no different. We have never lived through a pandemic, but we have lived and invested through several bear markets. 

  • Investing after a 30-40% decline in prices has generally been a good time to invest (or stay invested). Sometimes prices continue to slide lower, but they are often higher just 6-12 months later. Unfortunately, nobody knows if this will be a 30%, 40%, or 50% decline and it is always hard to imagine the market going up during times of panic.
  • As we have seen, bear markets produce extreme volatility and missing a single 10% “up” day can really impair longer-term returns. It is often a white-knuckled ride, but I do not advise waiting until it appears safe to invest.
  • The market will turn before the data or narrative changes. I often say that prices drives narratives. When equities hit bottom and a new bull market is born, many will not believe the first leg up and we are likely to hear things like, “its a short covering rally” (which it probably will be, to start), “this is a dead cat bounce, the other shoe is about to drop,” or some conspiracy theory about Fed and/or Treasury manipulation.
  • It is generally not a good time to sell when investors are panicked and selling indiscriminately. These things can push market prices lower, but the panic often subsides and cooler heads prevail.

The COVID-19 Pandemic and Market Panic

In these situations, I find it useful to invert the question of whether to sell equities. It can be helpful to ask, “If I had a lump sum of cash, should I be buying equities?” If the answer is yes, then the answer to “Should I sell?” is no. I’ll be the first admit that no one knows where the bottom is. It could be tomorrow, it could be in a week or month or even a year or more. Nobody knows how much of the health and economic situation is already accounted for in equity prices, nor does anyone know what fiscal policy is forthcoming. Nonetheless, I do not think it is a bad idea to begin investing after a 30-40% decline (unless you might need the capital within the next five years) and many of the other market indicators that I follow affirm this belief.

This pandemic is unprecedented and will likely produce the worst economic numbers that we have ever seen. However, I believe that the duration of the economic decline is more important than the depth. We can review the various projections, worrying indicators, and hopeful indicators, but the reality is that nobody knows what will happen. There are some horrific scenarios that I can imagine, as well as some best case ones, although reality will likely land somewhere in the middle. I’m convinced that the health situation will get worse before it gets better and the outlook appears dire, but pandemics do not last forever nor do panics.