This Too Shall Pass

Investors are facing unprecedented market volatility as the coronavirus pandemic creates severe economic dislocation. To help understand the turbulence, moving beyond the short-term noise, Rob Arnott, the founder and chairman of Research Affiliates, answers questions posed by Jonathan Treussard, a partner and senior member of the executive team, about how investors should manage the potential risks and opportunities that emerge.

Jonathan Treussard: Rob, can you put the current market turbulence into perspective? How unusual are these market movements?

Rob Arnott: The market is responding to a risk unlike any we’ve dealt with in recent decades. This crisis is not 9/11, though it may feel like we’re under attack. And this crisis is not 2008, although our financial markets entered 2020 with substantial cracks and weaknesses. While days like yesterday [March 16] (and a few before that) aren’t common, they come around with sufficient frequency that I’ve seen a few before: October 1987, 9/11, and, of course, the most volatile days of the global financial crisis all come to mind. But whereas I’ve seen market and economic crises over the four decades I have been in this business, this crisis is evolving faster than any in my lifetime.

Jonathan: Given the extremely rapid pace of this crisis, the natural next question is: Is there more pain coming?

Rob: Although the tendency is to try to forecast the future, nowcasting is a real danger. This crisis is evolving too rapidly. Nowcasting can lead us astray because events are still unfolding. Today’s numbers will quickly become quaint as the number of cases of COVID-19 rises around the world. Today’s “now” is the tip of the iceberg—so don’t get anchored to it. Later, after a period of serious challenges, we will begin to see progress, and the economy will eventually emerge from this nuclear winter, though there will be sector impairments, bankruptcies, and so on. As always, the time to buy is when we’re at “peak fear.”

Jonathan: When do you expect we will reach “peak fear” and what can we learn from the past?

Rob: Stocks will begin to recover long before the pandemic is on the wane. The strongest bull markets are not built on a foundation of good news, but on diminishing bad news. Wouldn’t it be nice if the world of academic finance had coined the expression “equity fear premium” instead of “equity risk premium”?! That premium is at its best when fear is at a peak. It will be hard to be perfectly right on the turning point, naturally, but don’t wait for the good news—just wait until the pattern of bad news lets up.