The COVID-19 pandemic has sent ripples through all aspects of our lives, and unfortunately, the stock market was no exception. While market corrections usually take months to unfold, global markets fell heavily in a matter of days. Indeed, investor panic sent the stock market into the fastest bear market in history. So, how do you cope seeing the value of your portfolio going down by 10%, then 20% or even more, depending on your risk profile?
As an investment professional myself, who has a Master degree in economics, I can tell you every single market crash for the past century. The COVID-19 correction is the first crash in my career (also telling my age!), and I came to the conclusion that my own reaction greatly differs to that when I study these events retrospectively. I couldn’t help but wonder, how do non-investment professionals and, in particular, our clients think about these types of heavy falls in their portfolios?
Behavioural economics explains these phenomena in two terms: hindsight bias and loss aversion. The first one, also known as,
”I knew it all along”, is a widely studied decision-making trap. It refers to the tendency for people to overestimate their ability to predict an outcome that could not possibly have been predicted. Another cognitive bias – loss aversion – is based on the concept that the relationship between risk and return is not symmetrical. This means that we feel much more comfortable with ups rather than downs; it explains why we are so anxious about losing money. I expect many clients would be more concerned with a 10% loss in their portfolio than a 10% gain - making money is logical, losing money is emotional!
The key to removing these biases is so hard, and yet, so simple. Knowing that your mind plays tricks on you is half of the battle, but there are ways you can outsmart your own cognitive biases.
So, after speaking with my colleagues (especially the ones who have experienced more than one market crash) and experts in psychology, I have combined a short list of tips that could help you to keep your head high in the current environment:
- Think not feel. Investing is a rational process, try not to let your emotions take over. If it makes you feel anxious, perhaps do not look at the portfolio every day. Remind yourself, that you are investing for the next 5, 10 or 15 years and focus on the long term.
- Stay invested (for the long term). History tells us that markets often recover, and sometimes quicker than you can normally react to. Capital can be destroyed with poorly advised exit and re-entry to the market – big rallies can often follow large corrections, missing these can damage potential long term returns.
- Paper losses. Unless you have sold the investments, these losses are not real. If you believe that a company has good long term prospects, it is worth hanging on to throughout this turmoil.
- Look at the companies that have fallen in value – what are the prospects of recovery? Perhaps it may be worthwhile cutting some losses and reinvesting in companies that provide better recovery characteristics for the rebound. Also, think of it as bargain hunting.
- Stick to the plan. Investing should never be guided by specific moments; it should be a part of a process over time. If you do not have a long-term financial plan, creating one—and sticking to it—is the best action you could take at this time. If you do not know where to start – seek advice. Do get in touch with us and we will guide you throughout this.
Sandra Dailidyte // Client Senior Manager
