It is some point in the future and the market has just dropped 8% for the month. Geopolitical uncertainty caused by aggressive rhetoric towards the United States from a rogue dictator and the fallout from a bellwether, blue chip stock badly missing its earnings estimates and lowering guidance have caused a sharp drop in equity prices. Sensing a ratings bonanza, the financial media is flooding the airwaves with breaking news alerts and close-up shots of the NYSE big board full of red ink. Does this scenario sound more like a nightmare to you or the makings of a good buying opportunity? If it is more the former, it may be an indication that your asset allocation is not a good match for you or it could be an indication that you are not embracing fear and market volatility in the most potentially advantageous way.
To learn more about managing fear, in January of this year I traveled to Alta, UT to attend a two-day skiing clinic on the mental side of skiing. The camp was run by twelve-time, extreme skier of the year Kristin Ulmer. Over the course of her career she has skied and won extreme skiing contests on some of the steepest and most treacherous ski lines on the planet. Fear was a constant companion. At first glance, there may not seem to be a lot of parallels between investing and skiing, but after attending this camp I can assure you there are. As we learned over the two days, when you ski terrain outside of your comfort zone, fear will definitely be present. Am I going to fall? Will I get hurt? How long will I be out if I get hurt? All of these doubts creep into the equation of the skier untrained to deal with fear, and if not channeled in the right way, the fear can lead to timid turn initiation, weak muscle response, doubt, and the very outcome, falling and potentially getting hurt, you were trying to avoid in the first place. Imagine, however, as we learned, if you developed the mental skills as a skier to embrace your fear as a partner in the equation rather than an adversary. Imagine if the fear gave you unmatched focus on your turn fundamentals to get you through the first key turns as you drop into a 40-degree chute. Imagine if fear could be harnessed to give you a shot of adrenaline in your muscles that gave you the power in your legs and your core to better handle the gravitational pull of the mountain’s steep pitch. Imagine if channeling fear for good and harnessing its power gave you the clarity to see and execute your next ten turns in perfect synchrony. By retraining your mindset to view fear as your partner on the hill instead of your adversary, we learned you could ski more of the mountain than you ever imagined possible and do it more safely, successfully and enjoyably in the process.
The benefits of retraining how we embrace fear can be applied to investing as well, and the rewards can be even more impactful. As the below chart from the Hartford Funds Group illustrates, two investors start out in 1976 on the same path of investing $10,000 into the S&P 500, but handle their volatility-related fears very differently along the way. The orange investor has not learned to embrace volatility and takes $2,000 off the table every time the market sells off by more than 8% in a given month. The blue investor embraces volatility and reaches into their pocket and adds $2,000 more to their investment every time the market sells off by more than 8% in a month. Over the forty-year period (1976-2016) this level of monthly sell off occurs fourteen times. The blue investor has therefore contributed $28,000 of additional capital to his original $10,000 investment. And how much does he have to show for retraining his approach to handling market volatility related fear? By embracing the fear and buying on weakness, the blue investor ends the period with $1,112,518 while the orange investor ends with $278,480. An $834,038 difference. Now that can buy a lot of great ski vacations.
In closing, fear is common in many of the things we do as humans. It is present in many aspects of our daily lives, including how we handle our investments as well as how and what hobbies we pursue. We are in a market environment where execution risk as it relates to the new administration is high, which could lead to market volatility. But to put even that into perspective, we will have at least five different administrations in the United States with different agendas, goals and views over the next forty-year period. Nothing that occurs in any of them will likely alter the long-term power of embracing our volatility-related market fears as opportunities. In short, how we handle fear can mean the difference between achieving our lifetime goals or falling short of the mountain top.