We just finished the first month of the new presidential administration, and the pace of activity has been dizzying. We’ll leave discussion of the merits of the various domestic and international policy initiatives for another forum. For now, we’ll try to address what might happen in the financial markets, and how it might impact your situation.
As usual, we have no way to predict what will happen, either short- or long-term. Some of the economic proposals, including eliminating regulations and lowering taxes, are likely to be positive for the markets (despite what you might think of them as policy matters). But several of the other moves, like tariffs and mass deportations, appear likely to generate further inflation and scare the markets, as we’ve seen with some large stock price declines in the past month.
Even if you think the markets might take a major hit, there are a couple of issues to consider before making big changes to your portfolio:
- Reducing your stock allocation significantly could have large capital gains tax consequences if most of your stock holdings are in taxable (i.e., non-retirement) accounts.
- Getting the timing right from a long-term perspective is doubly hard because you have to be right about when to sell as well as when to buy back into the markets, so you don’t miss a significant recovery.
Ron Lieber and Tara Siegel Bernard made similar points in their New York Times article from 12/26/24, before the new administration took office. The historical analysis is particularly poignant given the upcoming five-year anniversary of the first Covid-19 shutdowns.
“Nobody knows what will send the stock market into a tailspin, or when that moment may be coming. This is the inherent risk that comes with investing. But some investors are concerned that … Trump’s policy agenda — stiff tariffs, … mass deportations of immigrants — could push the market over the edge, inflicting real damage to the investment portfolios they worked so hard to build.
The president does pay close attention to the stock market and seems to view its performance as a reflection of his own. Some experts have said they expect the market’s influence to act as a check on Mr. Trump’s policy decisions.
But when there is uncertainty, we tend to focus on what we can control, and our exposure to the stock market is one of those things. Now is as good a time as any to ensure your portfolio is well positioned to weather any market conditions, regardless of who is occupying the White House.
But it may also help to consider what happened to investors when they did act on their fears during periods of market volatility.
Assuming your mix of stock and bonds is appropriate for your personal situation and goals — which includes your ability to stomach market drops — doing nothing is usually the wisest course of (in)action. After all, we know that past results do not foretell future market behavior, but they can inform ours.
Let’s rewind to the coronavirus pandemic, when most of the economy grinded to a halt — a situation that easily qualified as a “this time is different” moment. The market reacted in kind: The S&P 500 plunged 34 percent in late March 2020 after hitting a high on Feb. 19.
Vanguard studied what happened to thousands of its retail investors who panicked during that moment, just as the pandemic unfolded. Fewer than 1 percent of those people fled stocks for cash, but of those who did, the vast majority, or 86 percent, earned lower returns during the three and a half months that followed than if they had just remained invested, according to its analysis, which looked at the period from Feb. 19 to May 31, 2020. That included the 34 percent market plunge, and subsequent 36 percent rise, which these investors missed.
Ultimately, the S&P 500 gained 16 percent by the end of that first pandemic year, and soared more than 25 percent in 2021.
Indeed, the difficulty that follows fear-based selling is figuring out when exactly it is “safe” to get back into the water. Most people end up waiting too long, similar to the investors Vanguard studied, and miss out when the market bounces back. That can cost investors dearly, even those who eventually return.
Consider three hypothetical retirees with identical $500,000 portfolios, consisting of 60 percent stock funds and 40 percent bonds — a fairly common allocation for Vanguard retirees heading into 2020.
Let’s say each of them reacted differently to the pandemic plunge. Here’s what their portfolios would have looked like on Oct. 31, 2024, assuming they reinvested all dividends:
Investor 1. She stayed invested throughout the zigs and zags of the pandemic.
Projected portfolio balance: $741,670
Investor 2. He panicked and sold on March 16, 2020, one of the peak moments of volatility. He remained in cash, missing out on all gains had he reinvested.
Projected portfolio balance: $471,514
Investor 3. She also panicked, selling entirely to cash at the peak of volatility, but reinvested as the market rebounded in late May.
Projected portfolio balance: $625,843
‘The costs of panicking to cash in 2020 would have been significant — generating lost wealth well into the six figures,’ said Andy Reed, head of investor behavior research in Vanguard’s investment strategy group. ‘We find people tend to be out of the market longer than they anticipated,’ he added.”
As always, please feel free to contact your Park Piedmont advisor if you’d like to discuss these topics in additional detail.
