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The power of staying the course

02 December 2020 | Markets and Economy

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By Shaan Raithatha, economist, and Jan-Carl Plagge, senior investment strategist, for Vanguard Europe.

The last few weeks have been lively for markets. They also underline why it pays to ensure your clients have a robust plan that can keep them on course through good and bad times.

Share prices were hit hard in the run up to Halloween as fears of a second pandemic intensified. With tighter restrictions and, in some cases, lockdowns imposed, the spectre of another reversal in global economic activity reared its ugly head. The looming US presidential elections intensified the uncertainty, as did the growing risk that the United Kingdom and European Union might fail to agree a new trade deal.

So it’s little wonder, in hindsight, that the FTSE 100 sank in October and ended the month at its lowest level in almost seven months.

But it was a different story in November as markets came to terms with the drawn-out US election results and warmed to the reduced risk of higher taxation and regulation due to the likelihood of continued congressional gridlock, with no party in full control.

And then having recovered some of the lost ground, share prices shot higher – in some cases hitting record highs – as news emerged of a successful new vaccine that might yet help end the pandemic.

This dramatic reversal of fortunes provides a timely reminder that predicting short-term market moves is very difficult and can potentially lead to expensive mistakes. Investors who panicked and bailed out, fearing the worst, will have likely missed out on the subsequent bounce. They may have also realised losses and remain out of the market even now.

By contrast, investors who remained disciplined and stuck with their plan will have likely benefited from the rally.

No such thing as perfect timing

Vanguard research shows it’s time in the market – not market timing – that increases the chance of investment success1.

In part, that’s because a large portion of an investor’s cumulative positive return is determined by only very few trading days. Missing these key days can be extremely costly.

This is illustrated by the chart below. Using the MSCI World Index as a proxy for global stock markets, it shows how £100 invested since the end of 2007 would have grown to £170 if an investor had missed out on the ten best-performing trading days. That compares with £310 if these ten days are included.

How missing out on the ten best days can sharply reduce your long-term return

Past performance is no guarantee of future returns. Source: Bloomberg, Vanguard calculations. Notes: Total returns shown, with dividends reinvested, in British pound terms as at 12 November 2020.

The hypothetical example above shows the significant impact that missing out on the biggest one-day rallies can have on overall performance. It’s also self-evident that the more time an investor spends in the market, the more chance they have of capturing these days.

Complicating matters further is the tendency we historically observe for the market’s biggest up days to occur close to its biggest down days – as we’ve seen in recent weeks. The best and worst days for markets tend to be clustered around times of turbulence (and turnarounds).

Hence, investors who sell in times of severe market distress are especially likely to miss out on these positive days if they don’t get the timing of their re-entry right.

These volatile market periods can, however, provide an opportunity for advisers to demonstrate to clients the value of sticking with a well-laid financial plan, irrespective of short-term market moves.

 

1 Renzi-Ricci, Giulio and Lucas Baynes, The impact of being out of the market, July 2018, Vanguard.

 


Investment risk information:

The value of investments, and the income from them, may fall or rise and investors may get back less than they invested.

Past performance is not a reliable indicator of future results.

Important information:

This document is directed at professional investors and should not be distributed to, or relied upon by retail investors.This article is designed for use by, and is directed only at persons resident in the UK.

The information contained in this document is not to be regarded as an offer to buy or sell or the solicitation of any offer to buy or sell securities in any jurisdiction where such an offer or solicitation is against the law, or to anyone to whom it is unlawful to make such an offer or solicitation, or if the person making the offer or solicitation is not qualified to do so.  The information in this document does not constitute legal, tax, or investment advice. You must not, therefore, rely on the content of this document when making any investment decisions.

Issued by Vanguard Asset Management, Limited which is authorised and regulated in the UK by the Financial Conduct Authority.

© 2020 Vanguard Asset Management, Limited. All rights reserved.

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