Making wise investment choices in uncertain times
The first quarter (Q1) of 2023 was a rollercoaster ride for investors. Market volatility unfolded following U.S. and European banking turmoil, and interest rates and inflation climbed—evoking investor fears about financial stability. As of March 31, 2023, the year-to-date performance is as follows: S&P 500 Price Index = + 7.0%, S&P / TSX Price Index = +3.7%, MSCI EAFE = +7.6%, Nasdaq = +16.8%.
Here’s a closer look at the areas that made their mark in Q1 2023 and will continue to shape the economy throughout the year.
Interest rates increased after COVID. To minimize the economic impact of COVID shutdowns, governments worldwide provided trillions of dollars in support through federal subsidies and low-interest rates. With excess money and an imbalance between the supply and demand of goods and services, inflation rose globally to levels not seen in decades. Once countries reopened and economies were on solid footing, central banks shifted their focus to reducing inflation. Global central banks began to raise interest rates, some more aggressively than others.
A sizeable increase in interest rates, predominantly in North America, has exposed some individuals and companies who may be unable to weather higher costs during a slowing economy.
Bank failures added to the uncertainty. Most recently, market volatility ensued on the signs of trouble in the U.S. and European banking sectors. In the short term, we're likely to experience more volatility as the market digests the ongoing fallout from regional banks and potential price swings in other market areas. We believe inflation will continue to trend lower (our view is 4% by the end of the year). And should that be the case, central banks, such as the U.S. Federal Reserve, are likely getting close to ending their rate hike cycle if they're not already there.
Making the right financial choices in difficult times. As the table illustrates, investing in a time frame of greater than three years increases the odds of success. The table shows returns and the odds of being positive for four different time frames: 1, 3, 5, and 10 years since 1950. Three main points to note from the table:
• Over the short term (1 year), the average return was highest, but the range in returns was by far the widest: a maximum return of 54% to a minimum return of –45%. Markets are volatile in the short term, and the odds of being positive are only 74%.
• Over the long term (10 years), the average return was the lowest at 7.3%. However, the range in returns was small: a maximum return of 17% to a negative return of –5%, with the odds of being positive at 92%.
• Over the medium term (3–5 years), returns were approximately 8%, with the shorter three-year term having a wider range. The odds of being positive are approximately 85%.
So how do you best invest for success? The historical data are clear: markets are much more volatile in the short term, whereas long-term investing increases the odds of positive returns. Perhaps this quote best captures the essence of how we should approach our investments during periods of short-term volatility: “Investing is like soap: the more you touch it, the smaller it gets.” —Darcy Howe