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On Staying The Course: Sep 15, 2013

John Gorlow | Sep 18, 2013

Lesson’s From Lehman: Don’t Panic

Five years ago, the demise of Lehman Brothers shook global financial markets. This marked the start of a dreadful six month period for investors. Returns on the S&P 500 plummeted 52%, the MSCI Int’l Developed Market Index (EAFE) gave back 53% and the MSCI Emerging Market Index lost 47%. 

The Lehman Brothers meltdown unleashed one of the most destructive financial crises ever. Wachovia and Washington Mutual Bank fell apart and disappeared. More than 57% of dividend paying firms either decreased their dividends or eliminated them altogether. Berkshire Hathaway, Inc. lost its longstanding AAA credit rating from Moody's. Chrysler and General Motors filed for bankruptcy. Auction Rate security markets froze. And the net asset value of shares in the Reserve Primary Money Market Fund shockingly fell below $1.

Nonetheless, investors who did not give in to panic and remained committed to equities and the principals of diversification through that extremely volatile time were rewarded with solid returns. Five years on from Lehman’s bankruptcy, the S&P 500 returned 56%. The MSCI Int’l Market Index (EAFE) returned 27% and the MSCI Emerging Market Index returned 33%. 

Selling stocks on March 9, 2009—the day the S&P 500 closed 57% below its peak—might have seemed wise. There was no way to foresee the index was about to begin a recovery that has endured to this day. The lost opportunity when the stock market rebounded would have proven costly. If an investor sold stocks and moved into bonds at the bottom, their investment would have returned 25% to the present as measured by the Barclay's U.S. Aggregate Bond Index. By contrast, if the same investor remained committed to stocks, their ROI on the S&P 500 Index would have totaled 145%, their ROI on the MSCI Int’l Developed Market Index (EAFE) would have totaled 95% and the their ROI on the MSCI Emerging Market Index would have totaled 108%. The different outcomes for panic and steadfastness amid the 2009 meltdown highlight the risk of market timing.

Clearly, it would have been optimal for investors to dodge the post-Lehman stock market crash in its entirety and re-invest their cash on March 9, 2009. But it’s safe to say that predicting tomorrow’s stock prices from today’s data is unlikely to meet with long-run success. Yes, there are those who were been credited with seeing the disaster coming and there are a few who supposedly called the bottom, but history suggests they are not the same individuals.

The next time there is a crisis, it probably won’t be any easier to figure the best course of action. No matter what the context, investors armed with a solid investment plan, motivated by their risk tolerance and investment objectives, need not react to turbulent markets.


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