Market selloff: The importance of risk and emotion

The recent sell off in global equity markets has many investors worried that the profit-making party is over.

The mighty Dow Jones Industrial Average has dropped 7 per cent so far this year and S&P 500 is down 5 per cent.

“Now I remember what a correction feels like,” Ron Florance, deputy chief investment officer at Wells Fargo Private Bank said in a note to clients this week, according to the Wall Street Journal.

Fears of an actual correction - defined as a 10-per-cent drop in the market - are starting to spread

That’s even though their occurrences are rare. There wasn’t a single 10-per-cent correction during the market rally between 2003-2007, the WSJ notes. The biggest pullback during that time was a drop of 7 per cent on the S&P 500. There were six corrections between 1982 and 2000.

Still, investors are understandably nervous. Many experts are offering some relief, calling for better days ahead.

“Our sense is that the worst of the fears are overdone and that equities will recover over the remainder of the year,” says Capital Economics analyst Julian Jessop in a recent note.

Offering perspective, he says the drop in equity markets in the developed world is small when compared to recent gains, including a 27-per-cent rise in the Dow and 30-per-cent lift in the S&P 500 in 2013.

As for emerging markets, Jessop notes they have been laggards for a while and the current drop isn’t as bad as last summer.

“In short, pullbacks happen,” he says.

Investor shift needed?

The current dip is a chance for investors to reconsider their risk profile.

A new study shows about one quarter of Canadian investors who identify themselves as low-risk investors own medium- to very high-risk products.

The Canadian Money State of Mind Risk Survey 2014 also shows that seven in 10 people who say they’re high-risk investors actually own "low- to medium-risk" products.

The survey, which looks at Canadians' behavioural response to investment risk since the 2008-09 global recession, also says one-in-three Canadian investors had a major loss (defined as at least 20 per cent of their investment value) in one year. More than half stayed the course, says the survey conducted for Investor Education Fund.

It also shows just over half of investors have made an investment decision based on emotion, and later regretted it.

Experts say there will continue to be ups and down in the market and the key for investors is to know your risk tolerance and invest based on your personal goals.

Barry Schwartz, vice-president and portfolio manager at Baskin Financial Services, recommends investors “ignore the noise” and investment in good quality, dividend-paying companies.

“Sometimes you make money, sometimes you don’t,” he told viewers of BNN’s Market Call program on Wednesday.

“The best time [to invest] is when you have the cash and the comfort in owning a quality investment.”

Adrian Mastracci , portfolio manager & financial advisor at KCM Wealth Management, says it’s important for investors to look at how their portfolio is doing, not the market.

“Manage your interaction with the markets — remember that markets can’t be managed,” he wrote in a recent note to clients.

Mastracci also offers a few investment tips to remember:

• Short term investing is speculation, long-term investing is a wiser mindset.

• Resist your urges to panic or overreact to sharp market moves — especially down.

• Invest only money you don’t need to spend in the short-term.

• Buy quality investments that have specific purposes in your game plan.

• Add new money to your portfolio steadily over time, in both bull and bear markets.

• Tweak your portfolio periodically vis-a-vis your target mix, not market results.

• Keep things simple.