During times of high volatility, it is very important to stay informed and understand the bigger picture behind what variables are affecting your investments. Without proper understanding of the financial landscape, you are more likely to make rash decisions based on emotions rather than facts and historical context.
July ended and August began with markets taking a deep downturn and the VIX Index (which reflects fear and volatility in financial markets) soaring. Let’s take a look at what exactly has happened, what factors caused them, and what you can do to make the most of uncertain times.
Three Key Drivers
Japan
Japan’s stock market dropped over 12%, its biggest one-day fall since 1987.
For years, investors have taken advantage of Japan’s near-zero interest rate policy. Borrowing money was inexpensive, and so investors would take out loans and convert yen into USD and then use that money to invest in other stock markets around the world.
Recently, the Bank of Japan raised interest rates from 0.1% to 0.25%. This rate hike caused the usual method to be less profitable for investors, which caused them to look for different investment approaches instead. The rate hike also led to the yen increasing in value, making investments in Japanese stocks more expensive for foreign investors and therefore making the market less appealing.
Overall, this whole experience drove negative sentiment around Japanese markets, which in turn led to massive selloffs that contributed to the market’s recent drop.
The Job Report
In July, a disappointing jobs report was released and added to fears of a weakening US economy. The Fed also kept interest rates stable in July’s monetary policy meeting, instead of cutting them as some had hoped. Both these instances contributed to investors’ uncertainty and impacted US stock markets.
Magnificent Seven
The S&P 500’s performance has largely been driven by the so-called ‘Magnificent Seven’. These are large tech companies such as Apple, Microsoft, and Nvidia, some of which have significantly benefited from the surge in AI interest. With such a dominating influence on markets, any downturns in the ‘Magnificent Seven’ would be greatly felt by the rest of the market.
However, this industry has taken a hit recently, with many analysts believing it was overvalued. The decline in stock prices is seen by some as a market correction, bringing valuations closer to their true worth. The focus on AI also seems to be waning, leading to some investors moving towards more stable stocks and industries.
What Should You Do About This?
Market fluctuations are normal and shouldn’t change your investing strategy. Instead, focus on:
Long-term Investing: Historical data shows that markets tend to rebound after major dips, as part of the natural investment cycle. For instance, Japan’s stock market rebounded 10.7% a day after its 12% drop, while US stocks also came back up after a three-day losing streak. By staying invested through downturns, you can benefit from potential market gains when this recovery occurs. Patience and a long-term mindset are necessary in riding out market volatility.
Dollar-Cost Averaging: Take advantage of market downturns by purchasing more shares when prices are low, effectively lowering your average purchase cost. It reduces the impact of market volatility and minimizes the risk of making poor investment decisions based on markets. Consistent investing, regardless of market conditions, helps ensure you don’t miss out on potential opportunities.
Diversification: A diversified investment plan spreads your risk across different asset classes, sectors, and geographic regions. This minimizes the impact of poor performance in any single investment, which can protect your overall investments from significant losses during market downturns and can lead to more stable returns over time.
