There is a behavioral bias related to the emotional side of investing that many of us exhibit but don’t often recognize in the moment. This bias is called Immediacy Bias, and it tends to impact us across many facets of our everyday lives.
Immediacy Bias is when we perceive our emotions as more intense today than the emotions we experienced in the past. The phrase “Time heals all wounds” is a play on this emotional bias we’re all prone to as humans. We feel things intensely in the moment but tend to forget how intense those feelings were in hindsight.
Understanding Immediacy Bias can help us frame how we react to intense market moves. Since the beginning of 2022, we’ve seen a dramatic sell-off in both stocks and bonds as the market adjusts to new information around inflation and the path of interest rates.
Fixed income, in particular, has seen one of the worst starts to the year since 1928! However, knowing the markets are volatile is one thing, but understanding how we react to these moves in the markets is another thing. One of the exercises I frequently lean on during periods of volatility is to frame what’s happening today on a larger time scale.
Let’s start with volatility. The VIX index is a measure of volatility on the S&P 500. The VIX index tends to go up when market volatility increases and stocks go down. Here’s a look at where the VIX stands as of May 13.
It’s clear we’re elevated compared to an average market, but we’re nowhere near some of the more dramatic peaks over the last 20 years between the Great Financial Crisis and the Covid pandemic.
What’s most interesting about today’s environment vs. the beginning of Covid is the US Investor Sentiment index hit a point lower at the end of April 2022 than it ever had been during the worst periods of the pandemic.
In other words, investors were more bearish in April than they were in March 2020! We have a different slate of issues to work through on our hands today, though the fact sentiment was so bearish recently suggests the pace at which the sell-off occurred to start the year may be overdone in the near term.
Pivoting to stock market performance, let’s walk through a thought experiment. As of May 13, the S&P 500 is down approximately -0.3% on a total return basis. As an investor, let’s say you went to sleep like Rip Van Winkle on May 13, 2021, and woke up a year later and looked at the performance of the market. From start to finish, it may look something like this:
Considering last year we knew inflation was beginning to increase, Covid was just getting through the Delta variant, and the Federal Reserve and US government continued spending money to support the economy, you may think we should be higher than when you originally went to sleep.
But then a passerby fills you in to say while you were asleep, we’ve experienced another wave of Covid, monetary and fiscal policies are quickly becoming tighter, and there’s a new war in Eastern Europe; you may consider a flat return on the S&P 500 pretty good all things considered.
Now let’s look at the actual chart for those of us who didn’t have the luxury of falling into a deep slumber for the last 12 months.
The highs during 2021 felt great, and the sentiment was positive. There were rumblings this type of performance couldn’t last forever. And for those skeptics at the time, their prediction turned into reality a lot sooner than expected.
The takeaway for this thought experiment goes back to the Immedicacy Bias we discussed earlier. Because we lived through and experienced these last 12 months as investors, we have a more intense response to the recent lows than we would have compared to the person who slept through this period. With that said, if we pull back the chart over the last five years, it puts the prior 12 months into perspective.
In the last quarter of 2018, when the S&P 500 fell almost 20% over three months, it felt like the world was as unstable as it had ever been. That period looks like a relatively small event compared with the market’s performance over the past few years.
During periods of volatility, it’s important to maintain perspective on our ultimate goals with our investments. Emotions can get overwhelming when we’re exposed to the constant flow of news daily. If we can take a step back, revisit our long-term goals, and remove ourselves from the day-to-day moves of the market, it can help reduce the anxiety we may feel when we go through more challenging times.
Content in this material is for general information only and is not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly.
All investing involves risk including loss of principal. No strategy assures success or protects against loss.
Past performance is no guarantee of future results.
The Standard & Poor’s 500 Index is a capitalization-weighted index of 500 stocks designed to measure the performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.
The CBOE Volatility Index® (VIX®) is meant to be forward-looking, showing the market’s expectation of 30-day volatility in either direction, and is considered by many to be a barometer of investor sentiment and market volatility, commonly referred to as the “Investor Fear Gauge”.