How to approach investments in a sideways stock market
March 29, 2016
The stock market got off to a rough start in 2016, but for all the volatility, it has not yet descended into a true bear market. Actually, the reality is something that can be even more dangerous: a sideways market.
For over a year now, the U.S. stock market has essentially gone nowhere, and it has been taking its sweet time about it. Investors need to adjust.
Going nowhere slowly
There have been some jarring down days and dramatic bounce backs, but when you add it all up the stock market has essentially made no progress for more than a year and a half now. As of late January, the S&P 500 was around the 1900 mark. That index closed at around the same level way back in May 2014.
That adds up to nearly 20 months of stocks going nowhere. Unless you are satisfied with the meager 2.2 percent dividend yield on stocks, that's a long time for an investor to go with no price appreciation to show for it.
An era of low returns
This period of dead money for the stock market is felt all the more acutely because it fits into a broader context of low returns. Bond yields are well below their historical norms, as are interest rates on savings accounts and certificates of deposit (CDs). That puts the onus on stocks to provide enough growth to make up for those low yields, and for some time now, stocks have failed to come through. This is about more than a 20-month period of going sideways. Stock returns have actually been lackluster over the first 16 years of this century.
As of the end of 2015, the S&P 500 had been climbing at an average annual pace of just 2.1 percent since the beginning of the year 2000. So, while the past 20 months have exemplified the market's sideways direction, it has been stuck in a low-return rut for much longer.
Investors worry about losing money in a bear market, but losing time can also be damaging. Whether it is an individual who is saving for retirement or an endowment trying to fund its operations, investors make the assumption that their money will grow over time sufficiently to meet their future needs. They can afford temporary deviations from their plan, but when an extended era of low returns sets in, it is necessary to adjust or else they will fail to meet those needs.
How to respond
There is no magic formula for coping with a sideways market, just a number of grind-it-out measures that might help a little:
- Stay aggressive. As unrewarding as the stock market has been, don't give up on it. Having a strong allocation to stocks at least gives you a shot at better returns in the future. Going too heavily with conservative investments like bonds and savings accounts would all but condemn you to anemic returns.
- Avoid broad market indexing. A bull market is like the proverbial rising tide that floats all boats - all you need to do is own a broadly representative portfolio of stocks like an index fund, and you will do well. When broad market indexes start going sideways though, indexing has less appeal. This is a time to pursue more selective strategies because even a sideways market has its winners.
- Go for long-term winners. Speaking of winners, in a sideways market, look for quality business models built for the long-term. It may take a while for stock prices to come around, so avoid short-term trendy companies that might not succeed long enough to see their stock prices adequately rewarded.
- Be an opportunistic buyer and seller. A choppy market with no sustained trend might give you multiple chances to get in and out of the same stocks at a profit. Use a tight pricing discipline in keeping with a market that has been fluctuating within a narrow band.
- Boost your retirement saving rate. This is the harsh reality - the market is not going to bail anybody out. The surest way to be make up for sub-par returns is simply to save more money.
- Minimize credit card debt. Savings account rates may be near zero, but credit card rates are well into double-digit territory, making this a particularly costly time to be carrying a credit card balance.
You may remember that the late 1990s was a period of unusually high stock market returns. That seems a long time ago now, but it is important for investors to have a long memory. If the market ever escapes this sideways rut, remember never to take good returns for granted.
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