The Patience Principle
Global markets are providing investors a rough ride at the moment, as the focus turns to China’s economic outlook. But while falling markets can be worrisome, maintaining a longer-term perspective makes the volatility easier to handle.
A typical response to unsettling markets is an emotional one. We quit risky assets when prices are down and wait for more “certainty”.
These timing strategies can take a few forms. One is to use forecasting to get out when the market is judged as “over-bought” and then to buy back in when the signals tell you it is “over-sold”.
A second strategy might be to undertake a comprehensive macro-economic analysis of the Chinese economy, its monetary policy, global trade and investment linkages and how the various scenarios around these issues might play out in global markets.
In the first instance, there is very little evidence that these forecast-based timing decisions work with any consistency. And even if people manage to luck their way out of the market at the right time, they still have to decide when to get back in.
In the second instance, you can be the world’s best economist and make an accurate assessment of the growth trajectory of China, together with the policy response. But that still doesn’t mean the markets will react as you assume.
A third way is to reflect on how markets price risk. Over the long term, we know there is a return on capital. But those returns are rarely delivered in an even pattern. There are periods when markets fall precipitously and others where they rise inexorably.
The only way of getting that “average” return is to go with the flow. Think about it this way. A sign at the river’s edge reads: “Average depth: three feet”. Reading the sign, the hiker thinks: “OK, I can wade across”. But he soon discovers the “average” masks a range of everything from 6 inches to 15 feet.