Articles
Jan 2008
An update on stock market volatility
Over the last few days global stock markets have seen considerable volatility resulting from the sub-prime lending problems in the United States which is affecting the broader economy as a whole. Inevitably, these conditions will result in nervousness amongst some investors.
Since SFS was established in 1988 we have seen a large range of stock market conditions. Whilst the circumstances surrounding the current market volatility may be unique, as indeed were all the previous stock market events, the principles which should govern our investment decisions have not changed. Investors should be prepared to take a medium to long term view and ride out periods of short term stock market volatility.
At times like this investors are tempted to come out of the market, however our experience is by doing so investors risk missing out on potentially some of the highest rises that quite often follow stock market falls. For example global stock markets fell after the September 11th attacks but in the subsequent recovery the FTSE100 rose by 16.49% in only 14 trading days.
Why have the stock markets become so volatile?
The stock market falls experienced over the last week have stemmed from the sub-prime lending crisis in America which arose in the second half of 2007. As we have seen with Northern Rock’s difficulties, America’s credit crisis has had far reaching effects around the world. In recent weeks there have been some negative economic indicators and corporate news, such as Citigroup posting a record quarterly loss. All of these factors have had an effect on market sentiment causing the stock market to become volatile.
Are the markets going to become less volatile?
No one can predict with certainty what will happen to the stock market in the short term. Central banks have responded to the market volatility by cutting interest rates, with the US Federal Reserve cutting interest rates from 4.25% to 3.5% and we would expect further rate cuts to follow from other central banks. It is likely that the Bank of England will cut bank base rates several times throughout 2008. These rate cuts are designed to restore stability to the markets. Stock markets are volatile by their very nature, however it is important to focus on the medium to long term returns that can be achieved, rather than short term fluctuations.
Should stock market uncertainty affect your investment strategy?
When there is stock market volatility it is perhaps only natural that many investors wonder what action they should take. For the majority of investors most investment experts would agree that if your circumstances haven’t changed the best course of action is to take no action and remain invested.
Historically, over the medium to long term stock market investments have outperformed deposit based investments, despite occasional periods of stock market volatility. For example, over the last 15 years there have been many periods of stock market volatility. In the year 2000 the technology bubble burst causing significant market volatility and in 2001 the terrorist attacks on 9/11 in America resulted in global stock market falls. Despite these events and other periods of volatility someone who invested £1,000 in the FTSE All Share Index in December 1992 would have seen their investment grow to £3938 by December 2007. However, an investor who came in and out of the market and missed the best 10 days would receive only £2,615. (Source: Fidelity International). This shows that it pays to take a long term view – time and not timing is most important.
What do the fund managers think?
Anthony Bolton, Managing Director for Investments at Fidelity International, says “In my experience one of the most common mistakes many investors make when they invest in the stock markets is to be sucked in when times are good and markets are high only to be shaken out in uncertain times when markets are lower. Investors should be prepared to ride out these fluctuations and take the long term view”. Edward Bonham Carter, Chief Executive of Jupiter Asset Management comments, “Whilst these periods of heightened market volatility can be destabilising, they can also provide buying opportunities for long term investors as markets tend to focus on bad rather than good news and potentially exaggerate their effects”.
Is there any good news from the current stock market volatility?
For existing investors stock market falls are never good news, although they needn’t be a cause for concern if you take the medium to long term view. However, they do create opportunities for the professional fund managers running the funds in which our clients are invested. These managers are able to take advantage of the market conditions and invest in some of the companies whose share prices have been most adversely affected to date and offer good value. This can then improve the long term prospects for the fund.
This article focuses on the stock market. Many investments, such as Distribution Bonds, are diversified across different asset classes and returns are therefore not solely linked to the stock market. For example when the FTSE100 fell by 19.3% between May and July of 2002 the average Distribution Bond fell by only 5.6% over the same period.
If you have any concerns about your investments please contact your SFS advisor or telephone our Client Helpline on 0800 137 832 before taking any action - particularly as some investments may incur early surrender penalties if they are encashed within the first few years.
