disinvesting-lessons-from-history Disinvesting Lessons From History

Market stress can cause investors to make emotional decisions and switch investments to cash. Shawn Phillips, Research & Investment Analyst at Glacier by Sanlam, shows why this kind of decision could harm your long-term wealth creation.

2019 was a year of uncertainty, however, investors were rewarded for staying invested in risky assets. Globally, equities were the place to be with the MSCI World surging 24.11% (in rand terms), while most regional equity indices gave investors solid returns with the S&P 500 leading the charge. On the local front, the ALSI advanced 12.05%, while local bonds gained 10.32%.

We entered 2020 with optimism, but the global COVID-19 pandemic, sharp falls in the oil prices and South Africa's downgrade – amongst other things – have created fear in the markets, reminding investors of the 2008 global financial crisis. But while market stress can cause investors like you to make emotional decisions and switch investments to cash, this kind of decision could harm your long-term wealth creation. Here's why history cautions you from disinvesting.

There's always a rise after a fall

Take a look at this table – it shows the 10 worst days on the ALSI from 28 February 1997 to 28 February 2020. The average loss across these 10 data points was -7.14%, which is roughly in line with what investors experienced recently on 9 March 2020, on the ALSI:

As human beings we suffer from a number of biases, which can lead to irrational behaviour, especially during stressful situations. If you consider the 10th worst daily drawdown experienced (-11.92%) as an example, this return can certainly feel disastrous – and investors would be forgiven for extrapolating this into the future. This bias is known as ‘recency bias' and the danger of this bias is that it skews our view of reality, as well as the future. Why does this matter? Take a look at the subsequent returns following the 10 worst daily returns experienced on the ALSI:

The y-axis shows annualised returns, while the blue dot represents the 10 worst daily drawdowns (ranked from worst to best; left to right on the x-axis). The corresponding bar charts show the subsequent returns after those drawdowns occurred.

Take a look at the 10th worst daily return of -11.92%. You'll see that the subsequent returns were: 1.63% (one-year); 16.86% (three-year) and 16.09% (five-year). These subsequent returns were impressive… in fact, the average subsequent returns after these 10 worst returns were all extremely impressive: 25.17% (one-year); 16.61% (three-year) and 17.60% (five-year).

Use history's lessons to help you navigate into the future

Hindsight is perfect foresight: during these sharp drawdowns, it's difficult to have the patience and perseverance to stay invested, or better yet, to use this as an opportunity to enter the equity market. Yet the data – and history – suggest you'll be rewarded if you do.

Resist the temptation to disinvest; resist the temptation to switch to cash. Don't let fear in the short-term derail your long-term financial strategy. Work with your financial planner to make sure that you are invested according to your correct risk profile, which should go a long way in allowing you to navigate this volatile market, and the years beyond.

Please consult with a financial planner before you take any action regarding your savings and investments