Investor sentiment has materially changed since the start of the year. Investors have become increasingly concerned about the threat that risks, including higher inflation and geopolitical challenges in Europe, could pose to the economy and stock market over the coming months. As a result, the S&P 500 has declined by around 6% year to date.
This situation could dissuade some investors from buying shares. They may believe recent trends are more likely to continue in the short run, rather than end. Indeed, they may decide to wait for what feels like a calmer and less risky period to appear before deploying capital in the stock market.
A buying opportunity
However, a decline in the stock market can provide a more attractive buying opportunity for long-term investors. Lower valuations generally mean wider margins of safety are on offer. Indeed, in some cases, present risks may have been factored into company valuations following stock price declines.
Furthermore, with a wide range of companies still offering solid fundamentals and sound strategies, alongside an upbeat long-term economic outlook, their appeal may have increased, rather than decreased, since the start of the year.
This viewpoint has previously been highlighted by Berkshire Hathaway (BRK.A, Financial) (BRK.B, Financial) CEO Warren Buffett (Trades, Portfolio). In 2009, he said the following when discussing buying opportunities during the global financial crisis:
“It’s been an ideal period for investors: A climate of fear is their best friend. Those who invest only when commentators are upbeat end up paying a heavy price for meaningless reassurance.”
Investing focus
Of course, buying stocks after they have fallen heavily in a short period of time can be challenging. Indeed, many investors do the opposite and sell up to avoid prospective future losses.
As such, it is imperative to ignore the views of other investors as much as possible during a market downturn. Since it is impossible to predict short-term stock market movements, other investors are very unlikely to offer worthwhile insights into how share prices will perform in the future.
Instead, focusing on company fundamentals, such as financial standing and the size of an economic moat, may be a more logical approach. High-quality companies, in terms of having a solid balance sheet, a clear competitive advantage and proven management team, are likely to not only survive market downturns, but also recover from them. Buying them at lower prices may provide greater scope for long-term capital gains.
Accepting volatility
Clearly, buying shares while the economic and geopolitical outlook is uncertain can be a very uncomfortable ride. Short-term losses are relatively likely, since no investor can determine the opportune moment to purchase a stock that has fallen in price.
However, by accepting that volatility will be high, investors can mentally prepare for short-term challenges that may include paper losses. As the track record of the stock market shows, buying high-quality businesses at fair prices, and holding them through periods of high volatility, has historically been a successful means of generating market-beating returns.
