There are constant changes and events occurring all over the globe which can impact economies, governments and everyday people. The COVID 19 pandemic has been one of the most notable events to have occurred this century and has highlighted the importance of not responding to short-term noise and volatility and remaining disciplined to a long-term investment strategy.
COVID-19 and the economy
Information is the key to making informed and considered decisions in our everyday lives. However, an information overload can often lead to individuals feeling overwhelmed and pressured to change their status quo. Following the rapid spread of COVID-19 in March 2020, governments across the world introduced policies and legislation to reduce the movement of people and therefore the spread of the virus.
This has implications on global economies and saw a fall in the stock market of around 30%. This led to considerable fear and anxiety amongst investors, businesses and families as there was an unanticipated drop in the value of their assets and other investments. It was estimated that COVID-19 lockdown and restrictions cost the Australian economy approximately $28 billion in lost output.
However, it is important to put this into perspective. For many young investors, this highlighted the importance of diversification and taking advantage of optimal market conditions to continue growing their wealth over the long term. Whereas, for pre-retirees and retirees this reinforced that having a robust retirement plan in place that allows for some flexibility when unforeseen circumstances arise is crucial to ensure financial stability and well-being.
The performance of the market from March 2020 to December 2021 also shows that markets operate on a cyclical basis. There will always be market rises and falls, and it is up to investors to know when to respond and know when to stay the course. This was exemplified in the record high returns across the ASX which saw Australian share prices rise 26% in the 2020/2021 financial year. Unemployment rates have also been at their lowest since 2008 currently sitting at 4.0%. Therefore, it is important to note the importance of not responding to short-term noise including the pandemic and instead remain invested over a long-term horizon which will enable investors to enjoy greater returns when markets do recover.
History may not always repeat but it often follows a rhythm. There have been tensions between different groups since the beginning of time and thus political conflicts are likely to continue to occur throughout our lifetimes. Most recently, Russia’s invasion of Ukraine has already resulted in market volatility and a change in economic conditions such as the price of oil reaching record highs across the globe. Following the invasion, the S&P500 suffered its greatest drop since October 2020 as it fell by 20%. Although this increased uncertainty may have investors on edge, these events should NOT change your investment strategy. Despite this drop, the US market has already somewhat covered and thus investors are encouraged not to overreact and instead take advantage of cheaper unit prices through the strategy of dollar-cost averaging.
What can I do?
When these global events occur it is important to remain grounded by considering some important investment fundamentals which include the following:
Long-term investment strategy
Long-term investing is an approach that encompasses holding certain investments for an extended period of time with minimal changes during both market downturn and market growth. This involves allowing your investment account to grow over many years instead of reacting to short term volatility or noise that occurs on a day-to-day basis.
Being a long-term investor is often associated with bearing more risk and therefore increased returns as you have time to weather falls in the market. Another key benefit of long-term investing that attracts many individuals is the higher returns it often yields. According to a study conducted by Credit Suisse, Australian shares have given their investors an average annual return of 6.7% per year since 1900.
It also enables investors to ride out market volatility which is an inevitable symptom of investing in the stock market. Market volatility refers to the degree to which a share price fluctuates over time. However, this concept must be contrasted with the permanent loss of capital which occurs when investors react to short term volatility and sell their investments at a loss.
Dollar-cost averaging is a process whereby investors choose to invest their capital in smaller, fixed amounts on a regular basis over a longer period of time instead of in one lump sum. As risk is measured in time, the key advantage of this strategy is that investors reduce the ‘timing risk’ of trying to pick the bottom of the market. Although investors may wish to make strategic decisions and consider when market conditions are optimal to invest additional funds, dollar-cost-averaging provides investors with a greater sense of certainty instead of trying to rely on when they think markets will fall or rise.
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