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In reviewing market conditions this week, what strikes me most is the pattern that emerges when we look across various horizons, from 2 weeks out to 18 months. When we examine the average 2-week outcome that has historically followed periods that cluster with present conditions, the average outcomes are negative, but not strikingly so. Specifically, the expected return is in the lowest 26% of all historical observations, but that average return is only about -1%, a figure that is overwhelmed by typical short-term noise. That's another way of saying that guessing the market's outcome over the next couple of weeks is like guessing the throw of a very slightly biased pair of dice.
But the profile starts to change significantly as we move out the investment horizon. Looking out 5 weeks, for example, the prospective return falls into the lowest 8% of historical observations. Now, this could certainly change on the basis of shifts in various market conditions, but here and now, the 5-week horizon is more defensive than we've seen in the other 92% of historical data.
Most striking, though, is what we observe on the basis of prospective drawdown (the deepest loss the market experiences within a given horizon) looking out over the coming 18 months. On that front, the present drawdown estimate is in the worst 1.5% of all historical observations.
Keep in mind the distinction between the drawdown and the return over a given period. The drawdown over an 18-month period is the deepest loss experienced by the market from the current point to the lowest point within that horizon, even if the deepest loss occurs fairly early in that window. In contrast, the return over a given period is measured from the starting point to the ending point. Importantly, once we observe conditions that associate with a significant risk of drawdown, we can almost always find some point later on that provides a better entry opportunity to accept market risk.
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