On Monday February 24, the S & P 500 Index opened at 3,257 and as I sit here midday Friday February 28, we are trading below 3,000 at 2,919 in what equates to a roughly 10.3% weekly drop in value. This is a big move, even for an inherently volatile investment like the US stock market. The headline catalyst is the impact already being felt by the coronavirus and the threat of how much worse things could get. Companies, both small and large, have been making it clear to Wall Street that their earnings, not only for this first quarter, but for the whole year of 2020, will not meet expectations. So let’s break this down a little bit further for the sake of education with an example:
Brian’s Banjos, Inc. is a company that many people want to own because every year they sell more and more banjos. The stock price keeps rising because each year Brian’s Banjos earns more money by cutting costs of production and selling more of their beloved banjos. Interest rates are low, tariff wars are subsiding, and the overall health of the economy appears to be stable so Wall Street sees no reason why their momentum won’t continue. However, no one was planning for an illness so contagious, that half of the workers that physically build the banjos wouldn’t be allowed to come to work in an attempt to keep this illness from spreading. Now, not only is there going to be a shortage of banjos to sell (which means less money for Brian’s Banjos), but there is less demand for the ships that transport those banjos around the globe, hurting the shipping industry which in turn requires less fuel which in turn…spills over into so many other parts of the economy.
If you substitute Brian’s Banjos with Apple, Microsoft, Walmart or any other company that relies on a global supply chain to function, you have the reality of where we sit today. If we weed through all the flashing headlines, there is a story here that is not getting much attention. The stock market is functioning in exactly the way it is designed and intended to. The stock market, as a mechanism for valuing a company and measuring the future growth potential, is as healthy as it’s ever been. I will always prefer a smooth ride over a bumpy one. I will always champion positive weekly gains over losses, but I will never appreciate a stock market that is not functioning as designed. If a company’s earnings are indeed going to be lower this year or in the next 18 months, then the stock price should, in fact, be lower or going lower. I don’t have to like it, but I do have to respect and take pride that I am in a country where the system is working. Less revenue and lower earnings, for whatever reason, means a less valuable company.
So what the heck do we do? How do we react to these changes? Do we do anything with this information and news? There are two points that I would like to leave you with:
First, an investment that is worth less today, is not the same as an investment that is no longer worth owning tomorrow. A declining market presents opportunities to buy the same quality investment you may have owned for years, but now at a lower price. I am not going to wait to buy my next car because I think it is going to be more expensive next year. If it’s still the right quality car for me and my goals, I am going to run to the dealership and let my wife 🙂 fight for the lowest price we can get for it.
Second, life will go on and what cannot yet be priced into the value of the US stock market specifically, is the resilience of capitalism, people, and this great country that we live in. Although I expect short term pain, short term losses, and my hairline to recede with a new found speed, I encourage everyone to be focused on the long term.
For many readers, I am the co-captain of their financial ship and everyday am at the helm through these rough waters. For other readers, if you need a captain and want one with increasingly less hair, please don’t hesitate to send up a flare for some help.
(PS – this post is not a recommendation to buy or sell any investment or any individual security mentioned and is for educational purposes only)