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Financial Fears Over Coronavirus

Tuesday, February 25, 2020 — With nervousness that the Coronavirus pandemic is spreading, financial economic fears are spiking. The Dow Jones Industrial Average fell more than a thousand points Monday and, on Tuesday, trading on Wall Street closed after another 888-point plunge.

"We are asking the American public to prepare for the expectation that this might be bad," a spokesperson for the U.S. Center for Disease Control said Tuesday.

Amid the worldwide health threat and mounting human toll, TV financial anchors are talking faster and fanning fears. Here's some perspective.

A thousand-point drop just isn't what it used to be. When the Dow traded at 20,000 about three years ago, a 1000 point decline was a 5% loss. With the widely-watched index recently breaking 30,000, a 1,000-point decline is a 3.3% loss. A decade ago, the Dow traded at 10,000 and a 1000-point drop was equivalent to a 10% loss in value. So discount the frightening reports about point drops.

Remember the basic axiom of investing in common stocks: over the long-term investors earn the equity risk premium precisely because they expose themselves to price volatility, also known as risk.

  • 2% moves have occurred on average every 33 trading days.
  • A 2% move is 580 points on the DJIA.

Meyer: Let me start by talking about volatility, which is the slide that I start with every single session. And it's because, what do investors hate the most? Investors hate losing money, and losing money comes along with stock market volatility. You're looking at, in the red data series, the percentage daily change in the S&P 500. And you can see that the most recent surge in stock market volatility was the coronavirus, following a period of probably six or eight weeks of uninterrupted very low volatility. So, once again, you just get ready for it because, on average, every 33 trading days the stock market will correct 2 percent, and 2 percent on a 29,000 Dow is 580 points. Wow.

And I keep pointing this out because the number really surprises me. I remember so clearly when a 50-point day on the Dow was a big deal. It sent tremors through all of us who were in the markets way back when. And today, it's 580 points, and 580 points should be treated by all of us, your clients included... This is the education part of what we do with our clients, get them to not react to short-term gyrations in the stock market. And the way you get them not to react is simply by educating as to the nature of volatility, how frequently it comes around. And it's just part of the game when you're trying to earn the equity risk premium in stocks.

Remember the basic axiom of investing in common stocks. Over the long term, investors earn the equity risk premium precisely because they made a deliberate, conscious decision to expose themselves to price volatility, also known as risk. And because there's no free lunch in the world of investing, if you want the 6 percentage points that we've gotten in common stocks above and beyond bond yields over the long term, then you embrace volatility, actually embrace it. Say, "Of course. That's part of what I bargained for. If I want 10 percent in common stocks in the long term, I'm going to have to accept that volatility."

Remember the basic axiom of investing in common stocks: over the long-term investors earned a premium for owning equities precisely because they expose themselves to price volatility, also known as risk.

Past performance cannot guarantee future results, but a rubric of modern portfolio theory taught at colleges and universities holds that investors get paid extra return for taking risks.

The risk premium is the amount you get paid for owning a risky asset and it might be wise to keep this fundamental financial concept in mind on days like today: Whenever stocks plunge, you earn the equity risk premium.

This article was written by a veteran financial journalist. While these are sources we believe to be reliable, the information is not intended to be used as financial or tax advice without consulting a professional about your personal situation. Tax laws are subject to change. Indices are unmanaged and not available for direct investment. Investments with higher return potential carry greater risk for loss. No one can predict the future of the stock market or any investment, and past performance is never a guarantee of your future results.

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This article was written by a professional financial journalist for Neiman & Associates Financial Services, LLC and is not intended as legal or investment advice.

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