The psychology of success in a Bear Market

How are you doing?

Well, I hope.

It’s been quite a rollercoaster. One of those awful ones that goes up very slowly and then down ‘all at once’, to borrow from the famous bankruptcy line.

During the forest fires in Australia, one man who’d lost his home had quite an Australian way of putting things.

“Let’s just put it this way,” he said, “I’m not exactly on best terms with God right now.”

We are all now that guy…

I imagine many people are in a similar boat.

Today I’m going to try and take stock of what’s happened, and I shall endeavour to calm your nerves, and provide some ways to think about our new reality. A summary of events, changes and actions to take, really. A deep breath to help the adrenaline subside.

I imagine the last month looks something like this for most people:

The first bad week, markets fell 10-12%, and we thought, Christ this China thing isn’t great. Oh well, only 10% that’s fine, no action required. Economy looks good, and the Fed can print its way out of any problem anyway – we’ll be fine.

Then 20% came and we thought oh wow, look at Italy. Thank god we’re not there. Hopefully this is just like 2018. It should be pretty short lived anyway, this virus thing. People might start to kick themselves for not selling sooner, but oh well, it’s probably run its course now. This certainly can’t be as bad as 2008, right?

Then the oil shock came. 30% down soon followed, for our national indeces and probably our portfolios too. Our imaginations started running wild. All news was bad news. Projections were all downward. Wild suggestions of markets, borders, and god forbid, avocado on toast retailers, closing down started to emerge.

Then came 40%. Panic. Wow, 40%. That’s a lot. We’re back to 1997, 2005 or 2010 levels. If you’d bought the index in the year I was born (1995), you’d be up 50%, less than 2% a year. How could I possibly have held my nerve at 20%, how stupid am I??

Now I have said at previous levels not to panic.

This is all the more important now, and today I’m going to try and help you to do just that.

The psychology of the bear

Here I must defer to one of my favourite investors, Howard Marks.

His most recent book, Mastering the Market Cycle has some of the most brilliant quotes and riffs in it.

“What the wise man does in the beginning, the fool does in the end.”

“Investing requires a lot of timing, aggressiveness, and skill. But if you’ve got enough of the first two, you don’t really need that much of the third.”

His advice would be not to worry about what will happen tomorrow, next week or next month.

Instead, ask yourself this. US Treasuries currently yield some pitiful amount between 0.5% and 1.5%.

If you had to buy those, or shares in your five favourite companies, and hold them for ten years, which would you choose?

Well, with 40% discounts on your favourite equities, and a maximum return of let’s say 1% per year from the bonds, the ten-year choice looks a pretty easy one. Focusing on the five- or ten-year plan rather than the ten-day plan, that’s what makes us investors rather than traders, according to Howard.

It would take something truly extraordinary, far more so than this virus, for US treasuries to give you a better return by 2030 than the stock market.

And when it comes to selling, as many people will be doing or contemplating now after this brutal mauling by the bear, there’s a key point to remember.

As investors who want to be in the markets for the long term, selling to mitigate losses is not just one decision, it’s two.

You have to buy back in at lower prices in order for it to have been a good move. Factoring trading costs, this limits your room for error on that front.

Now from my perspective as a perfectly ordinary investor (I make precisely zero claims to brilliance), getting one of those decisions right is hard enough. Can I tell you both that it isn’t the bottom now, and when it will be? I’m not even sure I can do one of those things, let alone two!

So, for my money, the time for selling is past. What the wise man does in the beginning, the fool does in the end.

Perhaps you might make a few changes at the margin of your portfolio – maybe this has revealed that you really don’t care about company X or ETF Y – that you weren’t holding it with true belief in its long-term potential. If so, a small bit of selling just at the margin, maybe into cash, precious metals or your favourite long term stock picks, that might have some value.

It also might help you to feel like you have at least done something, rather than being totally paralysed by fear. Psychology is so important, now more than ever, and we will all be kicking ourselves – why didn’t I sell sooner, it was so clearly going to get worse!

Well, no actually it was not, or everyone would have done it. And remember, it wasn’t a foolish thought at the time by any means. Judge the decision, not the outcome. How many people predicted this? How many brilliant people said to hold, or to buy even at 10% or 15% down?

Really, selling a whole portfolio, and trying to get back in at lower prices? A fool’s game, if you ask me.

This too will pass

Remember the bush fires in Australia around Christmas? Those seemed to leave our front pages almost as soon as they came.

Like with the coal and oil industries, the important thing to look for is the loss of growth, not their ultimate end.

Fires were a problem in Australia long after it stopped being a popular issue, and companies will depend on oil for a long time after the growth disappears. But losing growth is what killed the coal companies, and when the fires stopped spreading, the world lost interest.

The virus will, at some point, be a memory and a story. It’ll move to page 2, page 5, and then it’ll only be the opinion pieces in the FT that still talk about it. There’s a good article you can read here (from a 3rd party) which provides some helpful psychological relief and fortitude. It reminds us that this too will pass.

In the same way as it’s impossible to pick a bottom in the markets, it’s impossible to pick a peak in the growth of the virus. I’m keeping incredibly close tabs on the data both globally and at a national level.

Some interesting points have emerged. Firstly, China and South Korea have effectively contained the spread.

Just when it appeared that the virus was accelerating at brutal speed… it began to slow.

The measures being taken by governments are effective. Don’t trust people who are just extrapolating current trends outwards indefinitely. Take a look at the outbreak in South Korea below.

That growth looks exponential, with new cases per day doubling roughly every three or four days.

Extrapolate that trend out for thirty days, starting from 750, and you are seeing tens of thousands of new cases every day. The UK only has a few thousand total right now.

So, what happened next?

Through an incredible testing effort, rapid response to potential cases and the whole of South Korean society buying into the effort – social distancing and good hygiene etc – new cases dropped as fast as they had grown.

The peak was pretty much the last day of February, but you couldn’t have said that for sure until 7-9 days later. It’s worth bearing in mind when you see people drawing lines that go up forever, or if you see people calling a peak after a couple of days’ decline.

Although it seems truly impossible, implausible and mad right now, it remains the case that stock markets bottomed when cases peaked in all previous pandemics, and that was the case for Chinese markets this time round. No guarantee of course…

And just as the virus can’t grow forever, markets can’t and won’t fall forever.

And once again I reiterate, the time for large scale selling has probably passed. Yes, things may go lower, but picking the bottom accurately at this point is just too hard.

Instead, realise that you can’t pick a bottom until well after the event. There’s only one way to get close to buying at the bottom of this thing, and it’s mechanical, rhythmical pound cost averaging.

What do I mean by that?

Pick a day of the week, mine is Tuesday, and promise yourself that on that day every week, fortnight or month for the next six or ten or whatever, you are going to buy.

Whether it’s defensive assets, growth stocks, precious metals or whatever, start buying things which you expect to do well as the world recovers. Because it will recover, sooner or later.

By giving yourself a day, and a timeframe, you can split your cash up into parts, and invest it slowly, so that you get a low average cost, near the bottom if not at the bottom of this mess.

There are two things that I would think about above all else when doing this.

What long term trends do you believe in?

Mine are the energy transition, and a return to inflation. This leads me to renewable stocks and precious metals.

The trends in the energy transition are just too clear, too powerful. Costs for renewables and EVs have dropped precipitously, adoption is accelerating, public and political mood has never been more strongly in favour, and the technology is getting so much better.

And for inflation and precious metals, well I refer you to my most recent piece  on King Rishi’s round of fiscal stimulus. The US are after a $1tn package (or more) for businesses.

The real economy is going to be awash with cash, and holding assets which keep their value while inflation erodes the value of cash – well it seems a sensible move to me.

But those are just my views, no better or worse than anyone else’s. What you like, are interested in and believe will do well counts for a lot. Investing in things which you truly believe in over the long term will help you to keep your nerve if things do continue to detiriorate.

Invest in companies, if you can, that you would be happy to own if the markets closed down for three years, tomorrow. Would you buy the whole business? Would you buy more if it halved again?

That will help focus your mind on what can be gained in the long term, rather than fearing what more might be lost in the short.

At the very least, make sure you don’t miss out when the recovery does come:

Well, I hope that today’s slight rebound and this note have helped to soothe the nerves somewhat.

And I hope you’re finding creative ways to enjoy life at home, too.

For example, last night my flatmate and I fashioned a game of table squash – a cross between ping pong and squash, with our kitchen table pushed up against the wall. Kept us entertained for hours. We’re hoping to get our two other flatmates involved in live streaming and commentary, so that we can sell it to Sky and BT Sport as the best available live sport going. Think of the broadcasting billions!

We also took the time to make a nice dinner, from Ottolenghi’s ‘Simple’ cookbook, and ate it in front of Season 2 of Top Boy on Netflix, which has long sat on top of our watchlist.

I’m after a Monopoly set to be honest, I haven’t played it in ages and would love to change ‘Jail’ to ‘Quarantine’, and rewrite ‘You have passed Go! Collect £200’ to read ‘You have survived another round, your central bank gives you £200’. But perhaps an online, unedited version will have to suffice for now.

Have a great weekend everyone, and keep safe.

Kit Winder

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