Saturday, August 6, 2011

Market Volatility

I keep hearing to expect "Volatility" in the stock markets.  Nothing new, really.  Some event spooks investors and they sell in a panic.  Sometimes it lasts a few hours; sometimes a few days; but sometimes a prolonged slump sets in.  Eventually, however, good companies return to their original prices.

During the fall of 2008, stock prices fell 40% in reaction to the collapse of Lehman Brothers and the panic that ensued.  By the following summer, most had recovered substantially.  However, the American and Canadian economies have limped along and anticipated growth hasn't occurred.

Last week, the markets continued a two-week downtrend, particularly alarming on Thursday, when the Dow Industrial Average had its sharpest sell-off since 2008.  The current slump is attributed to sovereign debt problems in the U. S. and Europe, a fear that austerity measures to reduce debt will further injure weak economies.

After the markets closed on Friday, Standard and Poor's reduced their rating on U. S. Government bonds from AAA (top) to AA+, the first time U. S. bonds have not had the highest rating.   Standard and Poor's doesn't believe that the U. S. is in danger of defaulting on its bonds, but instead cited a lack of political will by the Federal Government to deal with its growing debt.

How will this affect the stock market?  We'll have to wait and see.  A lack of confidence in the future of the U. S. economy may lead to a sell-off.  On the other hand, nothing immediately changes, and two other bond rating agencies (Moody's and Fitch) continue to rate U. S. bonds AAA.

What do I do as an individual?  The stocks I hold are high quality, pay dividends, aren't overpriced, and have had good growth long-term (more modest recently).  As a long-term investor, I should hold on and not be checking the market every day.  At least this is the advice I hear.  I don't consider myself good at predicting the future, so I shouldn't try to be too smart.  Emotions are likely to take control if I do.

Before the crash of 2008, there were a lot of signs of problems. Asset-backed commercial paper had frozen in Canada in August 2007.  Bear Stearnes investment bank had collapsed, and fears about Lehman Brothers were prominent.  At that time, I sold most of my market holdings ahead of the crash. Now I'm much more heavily-invested.  How worried should I be?