Price volatility – larger ups and downs – returned to the US stock market during the first quarter of 2018.
These unpredictable and unexpected sizable movements can make investors wary. But they give some not-so-gentle reminders to do a few things:
- tune out the daily stock market noise
- understand the market doesn’t just move on corporate earnings expectations
- make sure your asset allocations are appropriate
- continue to invest on auto-pilot.
What happened during the first quarter?
Let’s look at a mutual fund that tracks the entire US stock market – Fidelity Total Stock Market Fund (FSTVX).
During the fourth quarter of 2017, the best gaining day was 1.0% and the worst losing day was -0.9%. In other words, the price per share of this mutual fund increased at most one percent and decreased at most by less than one percent on any day during the quarter. Not much price volatility.
During the period, the standard deviation was 0.37%. And if you remember high school statistics, this means that for 68.2% of the days traded during the quarter the price movements were within 0.37% of the quarter’s mean price per share.
Now let’s look at the same metrics for the first quarter of 2018.
During the first quarter the best gaining day was 2.6% and the worst losing day was -4.0%. A bigger swing than the prior quarter.
During the first quarter of 2018, the standard deviation was 1.22%. Meaning that for 68.2% of the trading days, the price movement was +/- 1.22%.
Thus, daily price changes had higher highs and lower lows during the quarter.
What caused the volatility?
Stock prices move up and down every minute due to fluctuations in supply and demand.
Supply increases with negative news when people tend to sell stocks. Bad earnings reports, poor corporate governance, economic and political uncertainty, as well as unexpected, unfortunate occurrences can lead to stock price declines.
By contrast, demand increases with positive news and people tend to buy stocks. Good earnings reports, increased corporate governance, new products and acquisitions, as well as positive overall economic and political indicators, can lead to increases in stock prices.
But we now know that one of the causes of the big price drop in February 2018 related to computer-driven speculative bets on how volatile the market was or would be in the future. It wasn’t related to the typical good news-bad news story that underlie most investment stock price movements.
When the market dropped suddenly after a prolonged period of low daily price changes, the computer programs began to sell. The selling begot more selling and amplified the downward trend.
After a few days the market was back to where it was before the drop when cooler heads prevailed and realized there was an overreaction.
Of course, this is just one example, but it points out that stocks can move unexpectedly and then reverse course quickly.
What should you do?
Try to tune out the noise of daily price movements because in some cases they could be misleading.
But you can take time to review each of your account’s asset allocations (percentage of stocks and bonds) to see if they are still appropriate for when you need the money – your investment horizon.
A greater percentage of bonds/cash are appropriate should you need the money sooner rather than later. And now that certificate of deposit rates have edged up some – a 2 year CD can now earn 2.6% – these can be attractive to bond funds that have lost some value as interest rates rise.
And of course, continue to buy on automatic pilot, especially if your investment horizon is still 10 to 20 years away.
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