The Informed Investor
In recent weeks, the increase of unpredictability in the U.S. stock market has become a constant concern for investors. The hardest hit stocks have been those of companies who do business that requires importing from or exporting to China. Investors are aware of the prevailing cause–turmoil surrounding trade talks and additional tariffs between the U.S. and China. But what we should be asking is, why is the stock market reacting this way over outcomes that have not yet been decided? And what should investors do?
Markets move over the short-term when investors buy and sell based on anticipated outcomes before events occur. Volatility picks up in these short periods when investors anticipate incorrectly, or the uncertainty of an anticipated outcome increases, as it has with the current trade talks. At this point, the market can snap back and forth around such major events as they unfold, like a driver that has made a turn too hard then overcorrects by swinging far back in the opposite direction. Over the short-term, the markets are rarely balanced and instead swing like a pendulum between extremes.
Fortunately for patient and rational investors who are working to build sustainable wealth, these short-term swings around headline news seldom result in more than noise for a diversified long-term investment strategy. This is why the importance of an effectively diversified portfolio and reasonable time horizon cannot be overstated. Over short periods, the financial markets trade based on investor behavior and psychology, which is often irrational and unfounded. By contrast, investors focus more rationally on the fundamental value of investments over the long-term. So, when considering how to handle financial market volatility, it is critical to remain focused on the original objective rather than the latest controversy.