Following a 5% dip in September, the S&P 500 index is back at new highs, having gained more than 20% for the year to date.
Funnily enough, I haven't seen anything in the Herald about this recovery. When markets were on the way down, it was impossible to miss.
It isn't very suprising and is in line with how financial journalism works. Not only do journalists have to report the news, but they must also attract readers.
Reading financial news is interesting, but not useful for long-term investors. However, it does not always feel this way when scrolling past articles of doom and gloom. Often these articles make us want to do something with our investments.
Below I have compiled a few things that may affect how you feel about these articles. Maybe you will notice a few yourself as you read the news.
No news is usually good news
On most days, nothing really happens in share markets. Prices do bounce around a bit, but big jumps tend to happen when another significant event happens.
So if there isn't any news about the market, it's probably good news (or no news at all). On an average day, we expect prices to go up slightly, because share markets go up over time. But a headline like "Shares up slightly for no particular reason" isn't getting clicks.
This means, for most people, the only articles we see regularly about share markets is when they fall (and a couple when things recover). No wonder many people have a pessimistic view when it comes to the risks of investing.
In reality, most days are no news days. It is hard to notice when something is missing, but keep this in mind when scrolling through the headlines.
Emotive language is used
A trend we can see in all headlines is the type of language used. A person is not criticised, they are slammed. Many problems are escalated to crises. Countries are plunged into lockdowns.
With share markets, prices don't rise, they soar. When they fall, we hear of value wiped out, as if gone forever. You may click on an article to find a discussion of fear-selling, panic and desperation.
In reality, we know share markets often go down in value. These decreases are a normal part of investing and happen frequently. More importantly, we understand that nothing has been wiped away, it is just the shares we own are worth less than they were previously. Not many people would sell their house in a panic if the price fell, why should shares be different?
Yet this emotive language, used to capture readers, can affect the way investors behave. Those that act on these emotions tend to underperform their peers by a startling amount. Author, columnist and adviser Carl Richards describes this as the behaviour gap.
The behavior gap is the difference between the rates of return that investments produce when an investor makes rational decisions and the rates of return investors actually earn when they make choices based on emotions.
When reading headlines like this, consider the language being used and whether it is exaggerating the facts. While it can sometimes be hard to control our nerves, understanding what we can control is key to having a good investment experience.
New highs are nothing special
"Stocks reach new all time highs" is a cliché at this point, as it should be. People invest in shares because they want to grow their investment over time. While most companies pay dividends to shareholders, this growth comes predominantly from share prices increasing.
We can expect all time highs to come fairly regularly as prices increase. Looking at the S&P 500 for this year, more days brought new highs than failed to. Yet financial journalists seem to treat these highs as signs of an over-pressurised system.
Our last email included a piece by Jim Parker discussing this. Here a couple of key paragraphs:
Financial journalists periodically stoke investors’ record-high anxiety by suggesting the laws of physics apply to financial markets—that what goes up must come down. “Stocks Head Back to Earth,” read a headline in the Wall Street Journal in 2012. “Weird Science: Wall Street Repeals Law of Gravity,” Barron’s put it in 2017. And a Los Angeles Times reporter had a similar take last year, noting that low interest rates have “helped stock and bond markets defy gravity.”
Those who find such observations alarming will likely shy away from purchasing stocks at record highs. But shares are not heavy objects kept aloft through strenuous effort. They are perpetual claim tickets on companies’ earnings and dividends. Thousands of business managers go to work every day seeking projects that appear to offer profitable returns on capital while providing goods and services people desire.
So remember, when reading about all time highs, this is the reason we invest in shares. New highs are not a sign of bad times to come, a reason to sell up or a reason to hold off investing. They are a symptom of a functioning share market.
The economy is not the share market
Last year was a good lesson in this fact; the economy is not the share market. Although the two are linked, share markets are forward looking and reflect all available information.
Following a big crash in February and March 2020, many could not comprehend how share prices recovered as the global economy seemed to be getting worse and worse. If you fell into the trap of equating the two, you would have missed out on the period of huge gains which followed.
When we read about a struggling economy, or coming inflation, or interest rates rising, we may initially think of how our investments will be affected. However, share markets are very efficient information-processing machines. If you are reading about it, the information is already in the price (i.e. people buying and selling shares, of which there are a lot, have already accounted for it).
Don't be surprised if good/bad news for the economy does not show up as good/bad results for your investments. While the two are linked, they are very complicated systems which don't always move together. And that article from this morning includes nothing useful for your investment strategy.
Best/worst cases (since the last best/worse case)
Another staple of financial headlines, "shares face worst/best day since X". Clearly the first thing journalists looks at following a good or bad day on the market was the last day it was better or worse. It is alarming to read these headlines at first, but with further thought, the opposite can be true.
I mentioned in a previous email my thoughts upon seeing the headline Wall Street marks biggest drop since May as Evergrande crisis intensifies.
The first thought I had was, what happened in May?
The headline implies it must have been worse than the current drop, but I couldn't remember anything significant happening. I also knew our portfolios had increased in value since then, so it obviously wasn't a big deal in hindsight.
It is safe to assume that back on that terrible day in May, there was a headline somewhere which said, Wall Street marks biggest drop since January as something bad happens. Or maybe it was the biggest since mid-2020 or earlier. It seems the first thing financial journalists do when the market falls is find the last time it fell by just a little more.
Funnily enough, the S&P 500 has already recovered from that little dip, as well as the dip in May and the dips before that. All of this while the Evergrande situation remains unclear.
The first thought you may have is, it must be bad if it is the worst day since X. When I see headlines like this they remind me how normal drops like this are and how frequently they occur. After all, if we made it through the last one and the ones before that, we should be fine through this one too.
Cherry-picking trends, signals and correlations
There are many different trends which people use to predict what the market will do next. With so many widely known strategies used for forecasting, you would assume active managers would do pretty well timing the market and choosing winning stocks.
However, as we've said time and time again, these managers are failing to do so. It turns out these indicators or trends don't offer the foresight needed to outguess the market.
We should really ignore most articles based around a predictor of markets. Further to this, it is important to recognise, these articles will pick the parts which agree with their main point.
You will be familiar with seeing opinion pieces with opposing views. Both will have a slew of information supporting their point of view. It is the same with financial news; the indicators used will be those which support their prediction. Other indicators will be ignored.