Dividend Money

October’s Panic Selling May Cost Investors Dearly

A few weeks ago I wrote an article titled Panic or Profit and many folks thought I was just spouting theory.  While that may be, the recent evidence of my “theory” has been proven at least half true thus far.

According to the Globe and Mail, panic sticken investors in Canada pulled a record $8.45-billion from the mutual fund market in a stampede for the exits. It was the worst month for net outflows since the Investment Funds Institute of Canada (IFIC) began collecting data in 1990, and nearly doubled the previous record posted in September, which saw net outflows of $4.5-billion.

Panic Selling

Of course many will be inclined to argue that those who pulled thier funds from the market in early October were smart and can now re-invest at lower prices.  While this is true, the figures shown are net outflows for the month – so we’re not talking about trading or churning of these funds.  This data is a decent representation of those investors who panic-sold.

Further to this point, most seasoned traders, who would be more inclined to recognize the market conditions and sell their holding to re-invest at a later date are likely not invested in mutual funds, but rather individual securities.

One such example of an individual who panic-sold is Norman Bambrick, a 72-year-old retiree in Port Perry, Ont. He bailed out of his bank fund after seeing his $200,000 investment in two accounts take a $12,000 haircut in 10 months.

“The funds didn’t work out for me and I cashed them,” Mr. Bambrick said.

“I had a feeling that they were headed for a disaster,” he said. “I had no confidence in them.”

What is even worse about this example is that the gentleman suffered just a 6% loss to his portfolio.  This is an indication that he has received some incorrect advice about his risk tolerance and the investments that he holds.

Understand Your Risk Tolerance

If Mr. Bambick could not tolerate a 6% loss to his portfolio, he should not have been invested in those vehicles.  At 72 years old, with such a low risk tolerance and relying on his portfolio for income,  Mr. Bambick should likely be invested in Guaranteed Investment Certificates (CD’s in the USA) and Fixed Income securities only. Fortunately, that is exactly what Mr. Bambick did with the proceeds from the sale of his funds.

While this example is of an investor who was not likely in the appropriate asset allocation for his situation, it is still an example of panic selling.  When we sell out of fear instead of understanding our fundamental reason for selling we often lock in losses.  And, by the time we get up enough “courage” to return to following our original investment plan (when general market sentiment turns positive), we have often missed out on the initial upside gain.

The moral of the story is this:

• If you were lucky/smart enough to cash out before the downturn – don’t be too late to re-invest those proceeds because prices are much more attractive now.
• If you panic-sold during the downturn get prepared and develop a plan that is comfortable for you.  Don’t miss out on potential gains when the market turns the corner.
• If you have been holding throughout, stick with your plan because this time is not different and equities will rebound as market uncertainty eases and we return to the fundamental valuations.

I personally fall into category number three and have been buying dividend growing stocks and some index ETF’s over the past 5 weeks. 

Which category are you in?

Posted in Investment News | 6 Comments »

Do Surges In Volatility Precede Market Reversals?

October has often been referred to as the most horrible month for stocks, and this past October was no different.  We saw tremendous losses across all global markets; not to mention gut wrenching volatility that made even the most seasoned investors uneasy.   This extreme volatility was the aspect of the past month that was most interesting to me and it was interesting to learn that there have been previous instances of volatility that were just as extreme.

Historically speaking, the volatility we’ve witnessed has not been normal. And after almost five years of below-average volatility levels, the past few weeks have felt even worse. Recently a closer look at volatility in U.S. equity markets was studied within a historical context.

Market Volatility Over The Century

The statisticians went as far back as 1900 to gather points of data on all instances when volatility significantly deviated from the historical long-term average (for you statistics gurus, that’s +/- 1 standard deviation from the norm). I’ll continue to refer to this anomaly as a “surge in volatility”.

As observed in the chart below, it is evidenced that aside from the past few weeks there have been four specific instances in history when we have seen an extreme surge in volatility – October 1929, February 1938, October 1974 and October 1987 (notice the frequency that the month of October occurs).

Based on a comparison of these historical periods, here are some observations:

•  The increase in volatility occurs very quickly.
•  In three out of four times, the market bottomed within one month after the initial surge in volatility (in ‘74, the market bottomed two months after the initial surge).
•  In all but one period, the stock market was up in the 12 and 24 month periods following the surge. The exception was the period following October 1929 which stands to reason given the extraordinary economic headwinds of the era (the Great Depression).

 What does this mean for investors?

If the chart is any indication, a surge in volatility may be one indication that we are seeing the “darkest before the dawn”. It’s very important to note that this analysis isn’t meant to signal that a market bottom is around the corner. Rather, it suggests that periods of extreme volatility like the one we’re experiencing today have tended to represent important turning points in the market.

Of course the standard disclosure always applies in that “past experience is no indication of future performance”, but my view is that history is all of the information that we have to analyze.  Therefore, I take the stance that this compilation of information is better than no information at all.

I suppose that only time will tell if the extreme volatility in the equity markets during October 2008 was yet another indication of a market reversal.  

Chart Courtesy RBC Capital Markets

Posted in Technical Analysis | 4 Comments »