Volatile Markets: A Quiz

“ A short quiz: If you plan to eat hamburgers throughout your life and are not a cattle producer, should you wish for higher or lower prices for beef? Likewise, if you are going to buy a car from time to time but are not an auto manufacturer, should you prefer higher or lower car prices?

These questions, of course, answer themselves

Question: If you expect to be a net saver during the next five years, should you hope for a higher or lower stock market during that period?

Answer: Many investors get this one wrong. Even though they are going to be net buyers of stocks for many years to come, they are elated when stock prices rise and depressed when they fall. In effect, they rejoice because prices have risen for the “hamburgers” they will soon be buying. This reaction makes no sense. Only those who will be sellers of equities in the near future should be happy at seeing stocks rise. Prospective purchasers should much prefer sinking prices.”

Warren Buffet made this point in the 1997 Berkshire Hathaway annual report. A decade on and we nothing changes: Markets are volatile.

Markets go up and down but as buyers we should celebrate the falls and buy on sale. It's true that the finance industry is one place that many do not rush to purchase on sale.

Stock market go up and down

We all know that stock markets are constantly moving up and down. Over many years history has shown that markets go through cycles and the current volatility is a normal part of the investment cycle. This means that markets sometimes move down as well as going up.

Panic selling and buying in volatile times has been shown to be one of the worst strategies a person can use.

As we know, what happens in one market influences another, hence the term “when America sneezes the world catches a cold”. The problem is that human emotions can all too easily magnify the effect. Sentimental opinion is based on what people think will happen, as opposed to what really might be. Bad news in one part of the global market leads people to expect similar bad news in their own local market. This then causes them to start selling stocks irrespective of whether the problem is relevant to their market and so it goes on.

Remember why you invested in the first place. If the investment looked good then has anything really changed? Has your time horizon for the investment changed? Don’t let it be fear that makes you sell.