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Here it comes

Scott Maxwell - Friday, May 31, 2013

Our recent post talked about fluctuation. It’s a great word isn’t it, so sensible and devoid of emotion, so separated from the extremes of fear and greed that often characterize market movements. So repeat after me, “markets fluctuate”. That was easy wasn’t it?

But just how often do they fluctuate and to what degree? The answers are: often and, well various amounts. Not real comforting in and of itself so it might help to dig a little deeper and see just how markets have behaved over the last 100 years. The fluctuations we’re most concerned about are of the downward variety so we’ll concentrate on those.

It turns out that downward fluctuations of 5% or more happen pretty frequently, about 3 times per year on average. The most recent example of one of those was in November of last year. On average it takes about 45 days for the market to recover from one of these fairly minor and pretty frequent events.

Fluctuations of 10% or more happen a bit less often but still frequently enough that their occurrence should not be a surprise. We get a 10% or greater market decline about once per year and these take about 115 days to recover from. The last one of these we had was in October of 2011, hard on the heels of the “debt ceiling” discussion in Congress.

15% or greater moves happen on average once every couple of years. The recovery period following one of these sort of events stretches out to just over 200 days. The decline that ended in October 2011 was the most recent occurrence of this sort of selloff as well.

Finally we have occurrences where markets drop by more than 20%. These are a bit less frequent but still occur (on average) once every 3 ½ years or so. It’s not at all surprising that it takes some time to recover from these, depending on lots of different factors. But the average recovery period is 338 days. I bet you can all remember the last time we had to contend with one of these? It was the period that ended in March of 2009.

The takeaway is that market moves to the downside happen frequently and that we shouldn’t be at all surprised when they occur. Given that, we could think that we’re pretty close to one of those occurrences right now. The problem of course is knowing just when it might happen. We can’t know, it’s just darn near impossible to predict these movements. If we try to avoid them by selling we might be wrong and miss a significant part of any upswing we might be experiencing. If we try to react to them by selling when we "just can’t take it” any longer we’re likely to end up selling at or near the very bottom. Our alternative is to follow a disciplined strategy of diversification in our portfolios, spreading our eggs among the different investment baskets and realizing that market cycles are an inevitable part of investing.

No it's not a magic bullet. But knowing the lay of the land helps us to prepare for the inevitabilities ahead. So repeat after me, “markets fluctuate”....

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