If you are ever in the path of a hurricane, you will notice that the animals leave before the storm hits. There are no birds, squirrels, or even flying insects around. Perhaps they can feel the drop in barometric pressure, which warns them to get out of the way. Being outside when all the animals are gone is a strange experience.
I feel something similar in the air as I talk to investors today. Everyone expects that something bad is about to happen in the stock market. No one wants to invest a big chunk of cash right now. They all worry that the market is ‘too high’ and that danger is lurking around the corner. Retirees, or those soon to be, are nervous the next downturn will take a chuck out of their nest egg. I’ve never seen such agreement among investors.
Bull markets are born on pessimism, grow on skepticism, mature on optimism, and die on euphoria. The time of maximum pessimism is the best time to buy, and the time of optimism is the best time to sell. – John Templeton
History is not required to repeat. But John Templeton’s quote rings in my ears in every nervous conversation. Can we really be on the precipice of a big drop in the market with no optimism, let alone euphoria?
Why are we scared?
Judging by my conversations with investors, the tone of every 24-hour news channel must be extremely negative these days. Here are a few reasons I think investors are afraid.
The Fed is Lowering Rates – The Federal Reserve usually lowers its policy rate when something bad is happening in the economy. The Fed has cut rates twice in 2019, after slowly raising the Fed Funds rate from 0% – 2.50% between November 2015 and December 2018. You can lump in all the stories about the inverted yield curve in this topic. News organizations seem obsessed with inverted rates as a predictor of economic doom. This week’s blip in the overnight repo market did not help the narrative. I’ll admit that hearing about trouble in the repo market gave me a little 2008-2009 PTSD.
The Expansion / Bull Market is Long in the Tooth – Story after story reminds us that this economic expansion is long, compared to past business cycles. Although there are many who point out that the current bull market in US stocks is not more than a decade old, neither of the two 20% drops since 2009 stuck in the minds of investors. As far as we are all concerned, stocks have done nothing but go up for more than a decade. We are anchored to the dramatic drop during the Great Financial Recessions and the long, painful decline of the Dot com bust, and we all expect the next one to be worse. All-time highs in the stock market have preceded two very painful declines, and now our brains are programmed to expect another one. There’s no rule that markets or the economy must come down because they have gone up for too long.
Geopolitics – Someone (Iran) bombed Saudi Arabia’s oil production plants and took 5% of the world’s oil supply offline for a few days. There are prolonged conflicts in Syria, Yemen, and Afghanistan that seem to have no end. North Korea continues to test missiles. China and the U.S. are fighting a serious trade war. Israel’s second national election resulted in no clear winner. Right nationalist parties are gaining ground in Italy, France and other pockets of Europe. Europe’s economy continues to experience malaise. The UK Prime Minister is threatening to leave the EU with no deal in place next month, in spite of his Parliament passing laws demanding that he not do it. The geopolitical landscape is scary, but it always is. Geopolitical risk is an exogenous risk to investing that will always be present.
The 2020 Presidential Election – Even though the Presidential election is more than a year away, we are already in election mode. Democratic candidates have participated in several nationally televised debates, and the President is already testing out derogatory nicknames for each of them. Democrat voters truly believe the re-election of Trump will lead to the armageddon and Republicans think Biden or Sanders will turn the U.S. in to Venezuela. Political polarization is extreme, and the election news cycle is not helpful. But, there have been more extreme times of polarization in our past, and the country has survived and thrived.
Fear is a necessary part of long-term investing, unfortunately. If there were no reasons to be fearful, there would be no opportunity to earn the market risk premium. We don’t know when the next bear market begins, but we can be certain there will be another one. Investing requires a level of comfort with the unpredictability of the future. Each market cycle will be different, although in hindsight, humans will find commonalities.
There is no way to know if we are sitting on top of the next market cliff. But that is no reason to delay saving and investing for the future.