We saw a 50% or greater drop in equities as we did in 2008, at my age, could I absorb that loss??
Negative returns are painful. And the ugly mathematical reality is that gains and losses are nonsymmetrical.
For example, a loss of 14.08% requires a gain of 16.39% to break even. A loss of 20% requires a subsequent gain of 25% to break even. A loss of 35% requires 54% to be made whole.
The larger the loss, the disproportionately larger the gain that is needed to enable the portfolio to break even. A loss of 50% demands a 100% gain to fully recover. A loss of 75% requires a 300% gain to break even.
Other things to consider:
A. Bond holdings in mutual funds of ETFs are presently not safe investments. Even with interest rates falling to all time lows, because of default and liquidation risk bond values are declining. When markets eventually recover interest rates will rise and this will reduce the price of the bond. For example, If a 2 year bond’s interest rate increases 1%, the value of the bond will decrease around 2%. Similarly, If a 5 year bond’s interest rate increases 1%, the value of the bond will decrease around 5%. A 10 year bond’s interest rate increases 1%, then the bond value will decrease around 10%. Finally, if a 30 year bond’s interest rate increases 1%, the bond value will decrease around 30%
B. Gold is usually a safe haven when financial assets are falling rapidly and the Dollar Index is declining. Gold was trading close to 1700 a few weeks ago, but it closed at around 1486 today, March 16. Investors are clamoring to meet margin calls from their broker, and are selling their gold positions to fulfill this obligation. Other investors are also selling gold, because they are in a liquidity crunch.
C. Therefore, the only safe asset class that is presently a safe haven is Cash.
D. How soon losses are recouped depends on what type of recovery occurs when the Corona Virus wanes. If we have a V type of recovery markets will recover quickly, perhaps in a year or two. If we have a U type of recovery, market losses could take several years to recoup losses. If we have an L type of recovery, losses can take many years to get back to pre-crash price levels. It is too early to project what type of recovery will eventually occur. Also, it is most likely that an investor whose total losses were 20% will recover quicker than an investor’s tot losses were 50% or greater.
Alan Friedberg – 3/19/2020