Today, the Index of Consumer Sentiment is at 59-below the average low point in prior crises. The S&P 500 advanced by 25% over the next year and 49% over the next three years ( Display). Yet pulling out of equities would have been a poor decision. In November 2008, consumers were stunned by the collapse of equity markets, the US subprime mortgage crisis and the demise of major financial institutions. Here, too, when consumer sentiment dropped to a low point, stocks did well in the aftermath. So, we looked at how stocks performed after moments of extreme pessimism, as measured by the University of Michigan Index of Consumer Sentiment. To be sure, the fear factor is a deterrent. There are still many good reasons to stay invested in stocks. Yet investors who maintained an appropriate exposure to equities in their portfolios were ultimately rewarded. For example, the bursting of the dot-com bubble in 2000–2002 and the global financial crisis in 2007–2009 dealt massive shocks to markets and economies-and were terrifying moments in financial history. This Isn’t the First Massive Market Shockīut take a closer look at the episodes listed above. It would be foolish to declare that the coast is clear. Higher energy prices, rising global yields and roughly two years’ worth of global central bank tightening are filtering down to economic activity with a lag. Today, inflation and its knock-on effects are challenging economic growth. While we agree that there is plenty of uncertainty, bad conditions are what drive sell-offs, and their underlying circumstances are often different when they occur. Skeptics might argue that conditions today are extraordinarily bad. Five and 10 years later, investors also enjoyed handsome gains. From the low point in eight US market downturns of more than 20%, equities delivered a 51.1% forward return after one year on average, and a three-year return of 82% ( Display). Following sharp US market declines since 1950, equities typically roared back with gusto. Both conditions have been present this year.īut what happens after a drawdown is encouraging. This process can be volatile, especially when share prices in parts of the market are unreasonably high and when the earnings outlook is extremely uncertain. That’s why market downturns are commonly known as “corrections.” Share values are reset to better reflect a company’s long-term earnings expectations. But they often set the stage for a healthier recovery. Severe stock market drawdowns are always unsettling. Setting the Stage for a Healthier Recovery Outside the energy sector, there have been few places to hide in equity markets, with sharp declines across Europe, Asia and emerging markets. Despite recent gains, the S&P 500 was down by 15.1% this year through November 15. Stock market volatility continues to rage, even after recent glimmers of hope. Patient investors can find comfort knowing that strong recoveries are common after sharp drawdowns. After a tough year for equities, is a recovery imminent? While nobody can predict when the market will bottom, we do know what happened after sharp downturns in the past.
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