Updated: Apr 11
Foremost, my heart goes out to the families suffering in the Ukraine-Russia Conflict. As we are all looking at the news releases, how can we not be concerned? I am writing this article to provide a critical investment perspective during this trying time. We will address these questions with the lessons in behavior science, valuation and correction study, Economic History, risk-adjusted return, and the investment solution.
Behavior Science is Essential Contemplation
It's painful to watch the war on the TV or the fear during the Russia-Ukraine war. The inflation environment we see now is also the first we have seen since the 80’s. The most common questions I get these days are: Should I sell out from Europe, Kimmy? Let’s get more oil stocks! Cash is king, Kimmy! It’s a skeptical time to think of investing. However, history also shows us that it can be a time to invest when everyone else is losing their mind. Whether to invest in growth stocks such as Google or a value stock such as Coca-Cola, a company with products people love and will miss if they can no longer have, is what we should explore. Of course, there are other investment factors in the equation, such as strong management, firm business model, cash flow, EBITA, the financial obligation to create long-term growth, etc. And did you know that Growth and Value stock produced almost the same return in the past 40 years of the investment period? Therefore, what behavior matters more is if you understand the company, your discipline to buy, and to stay invested in the long term. As the most respected businessman Warren Buffett stated, "No matter how great the talent or efforts, some things just take time. You can't produce a baby in one month by getting nine women pregnant."
Source: Mike Sullivan-ghpia.com
Valuation and Correlation Study
Below is a chart showing you the relationship between valuation and correlation from 1991 to 2021. The two variables S&P 500 Section Correction and S&P 500 Forward P/E are not manipulated by one another, and the direction among these two variables is opposite. Therefore, buying stocks at 30% down with high growth PE is a long-term strategic move, and buying 30% up with slow growth PE is a bad move.
Source: ProShare, Interactive Brokers LLC, Bloomberg 12/31/2021
Economic History helps to answer why and when markets will recover
Economic History is the study of events and patterns. History has been through cycles like this: The 1986 Stock Market Crash, 1999 Tech Bubble, September 11, 2001 attack, March 2008 recession, 2022 COVID Shutdown, and now inflation and the Russia invasion. Every time the markets have gone down due to these unprecedented events, they would recover, and the markets will move higher. Secondly, the market tends to not focus on business earnings during the historical events, which is just a normal part of how human emotion plays against intellectual judgment. Therefore, it is imperative not to look at any given month of return but the recovery trend itself. Currently, the Finance and Technology sectors account for a total of 45.5% share of the index's total market capitalization, the sensitiveness of their movement is consequential to indexing strategy and its recovery period. See the exhibit below on the historical downturn and recover time
Source: TD Ameritrade 2019
Source: Zack Earning Trends March 2 2022
The Importance of Risk Adjusted Returns
That said, seeing a $60,000 "paper" loss off your million-dollar portfolio and waiting for the recovery time sounds dreadful. But is it in line with your risk tolerance when a million-dollar portfolio is down 6% while Nasdaq is down 20%, S&P is down 12%, and bond index is down 5%? The truth of investment return does not lie on the most elevated return; it's about the risk-adjusted return. For instance, I still like Apple and Nike. They just announced they closed out operations in the Russian market. It is the right thing to do from the social perspective and a clever move based on risk-adjusted return. As the Russian ruble falls rapidly now, Apple and Nike stores in Russia can't possibly take the products off the shelf fast enough to re-price according to the exchange rate. So why even open the shop to chase the return? Taking the regional sales out of the danger of currency risk is strategic, and it is a definitive example of an intelligent move for risk-adjusted return. If an investor views this move as a sign of Apple or Nike slowing retail sales in the regime, perhaps this person shall consider hiring a professional money manager.
Staying in cash is not a long-term solution
Let's think ahead from a big picture perspective. How long can a person want to stay in cash and lose value in the money over long-term inflation and growth, while still gambling the timing to get back into the market? When you hold a good quality company and stay focused on a long-term strategic move in the market, you will get a greater compound return. Here is another quote by Warren Buffett, "Games are won by players who focus on the playing field – not by those whose eyes are glued to the scoreboard." The chart below by Envestnet shows you what matters most when it comes to building long term wealth.
Sources: Envestnet, Morningstar, Vanguard 2019
It also boils down to tax management, investment selection, and asset allocation. When you work with a skillful money manager, they can help you zoom out the day-to-day worry and let you know how to make the best buy/sell decisions during those times. Conversely, he/she will also inform you in a timely manner when to be concerned, such as when the company you hold can no longer deliver you a solid revenue expectation. A qualified advisor is also willing to take the loss and move on to other investments with more significant potential. Do not include fear or greed as the reason for buying/selling an asset. A competent financial advisor will not sell clients out of good stocks on a bad day. Therefore, you will not miss a good day when it rebounds. Sometimes it pays to have a competent advisor on every investor's team.
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