Worried About Volatility? Selling Stocks May Not Be the Right Move

Key Takeaways

In March 2023, Silicon Valley Bank and New York-based Signature Bank failed under the weight of unrealized losses on their balance sheets. The failures resulted from rising interest rates, and investors wondered if more dangers were hiding within the U.S. banking system.

Worries persisted even as the Federal Reserve (Fed) and the federal government quickly stepped in to protect banks and their depositors.

But what happened next may prove instructive for investors.

Instead of sinking after anxiety and apprehension peaked, stocks surged. The S&P 500^® Index gained 14% in the next three months, reaching its year-to-date high on June 15.¹

It wasn’t the first time stock markets defied investor worries and climbed higher. History shows, and research confirms, that high anxiety doesn’t necessarily mean investors should flee stocks. A jittery market can create opportunities for investors who can stay the course. Or, as Warren Buffett famously quipped, “Be greedy when others are fearful.”²

Bank Failures and Investor Anxiety: Volatility Peaked and Pessimism Soared but Stocks Rebounded

The March bank failures unfolded quickly. Within a week, Silicon Valley and Signature collapsed, prompting unprecedented action by the Fed and U.S. regulators during the weekend of March 11-12.

But investor concerns escalated nevertheless:

• On March 13, the Chicago Board of Trade’s VIX Volatility Index, often called the “investor fear gauge,” reached a five-month high. It also marked the VIX Index’s peak in the first half of 2023.³

• On the same day, the S&P 500 plunged to a two-month low.

• That week’s American Association of Individual Investors survey showed that only 19% of respondents were bullish, the lowest level during the first half of 2023. Conversely, 48% of investors were bearish, one of the highest levels in the year’s first half.⁴

• Professional fund managers were worried, too. Bank of America’s monthly Global Fund Manager survey, conducted the week of March 10-16, showed that investor pessimism had risen to levels nearing the worst of the previous two decades.⁵

Despite investor anxiety, the S&P 500’s March 13 plunge wasn’t the beginning of the end. Instead, it marked the low point for U.S. stocks during this volatile episode. By May 1, the index rebounded by 8%, and the S&P 500 was up nearly 17% year to date as of June 30.⁶

This rally occurred despite another bank failure (California-based First Republic), the second largest in U.S. history, and two more Fed interest rate hikes.

Sometimes Stocks Rise Amid Investor Fears

The spring surge amid high anxiety wasn’t altogether unusual. Market history and research support Warren Buffett’s maxim.

In recent decades, investor anxiety, as measured by the VIX, touched its highest points at the onset of the COVID-19 pandemic and during the Global Financial Crisis (GFC) in 2008. As shown in Figure 1, stocks rallied strongly in the ensuing months after these spikes in investor nervousness.⁷

Figure 1 | Robust Gains Have Historically Followed the Highest Spikes in Investor Fear

^{Sources: Macrocaption and Yahoo Finance. The VIX generally rises when stocks fall and drops when stocks rise. Levels above 30 indicate heightened volatility and fear in the market.}

Of course, the pandemic and GFC represent two uncommon and extreme events. And while stock prices historically increase over time, there’s no guarantee they will climb quickly after periods of anxiety and volatility. But even less chaotic circumstances have yielded similar results.

Outside these tumultuous periods, the next highest closing value for the VIX came in August 2011 against a backdrop of worrisome economic news and a Morgan Stanley report predicting a recession in the U.S. and Europe.⁸ The S&P 500 rose 21% and 25% in the next six and 12 months.

In 2002 — before any of these cases — a finance professor in Belgium essentially predicted their outcomes. He concluded that high anxiety levels among investors “can, on a statistical basis, be viewed as signaling an imminent increase in stock indices, at least on a short-term basis. Moreover, these returns appear attractive from a risk-return point of view.”⁹

Earlier research found that changes in the VIX Index constitute statistically leading indicators of daily future market returns. Furthermore, it suggested that “market timing” using this measure has the potential to help improve a stock’s portfolio’s return.¹⁰

Staying Focused on Your Long-Term Investing Strategy

Of course, trying to time markets isn’t a prudent approach for ordinary investors. Pouring money into stocks during periods of high anxiety, market turbulence and sizable uncertainty also carries inherent risk.

And historical evidence and research indicate that pulling money out of stocks during troubled times hasn’t generally served investors well, either. Instead, the data shows that the market’s mood has typically turned darkest just before dawn.

High anxiety can make it challenging for investors to see straight. That’s why we think maintaining a consistent focus on your long-term investment plan — and disregarding your nerves as best you can — is likely the best path to achieving your financial goals.