What Does It Take To Recover From A Stock Market Loss?
The stock market has been bumpy so far this year and you’ve likely seen a lot of percentages in the news headlines. Index Down More Than 21% This Year, NASDAQ Jumps 1.3%, and Zoom Up 7% are just some examples. You can get a feel for whether the news is good or bad depending on the direction that the numbers are going, but do you actually understand what those percentages mean?
It’s more complicated than you think, so today we’ll look at what those percentages actually mean and what it will take for the stock market to recover. First, let’s see what it needs to recover from.
2020 Stock Market Behavior
For the sake of this article, we are going to use the S&P 500 as a proxy for the stock market as a whole. The index is commonly considered representative of overall US stocks because it includes the 500 largest US companies. This is how the S&P 500 has performed since the beginning of the year:
As you can see, what started as a smooth ride up came crashing down. The S&P 500 reached a new record high on February 19, 2020, and then fell 34% before bottoming out on March 23. That’s the big jagged drop that you see.
Since then, stocks have staged a remarkable comeback, rising in value by 43% as of June 9. That is the date that we will use for all of the calculations in this article.
What The Percentages Mean
If stocks dropped 34% and then rose again by 43%, why isn’t the right side of the graph higher than the left side, or in other words, why haven’t we reached new highs? That is a good question because if you do the basic math, you would think that the stock market would be 9% higher than it was in February.
-34 + 43 = 9
The percentages don’t add up because they are based on different numbers. On February 19, the S&P 500 reached a high of 3,386.15 points. Then it lost 1,148.75 points and bottomed out at 2,237.40. To calculate the percentage of value it lost, divide the loss by the starting point:
1,148.75 / 3,386.15 = 34%
After bottoming out at 2,237.40, the S&P 500 has since gone up by 969.78 points to 3,207.18. This growth is reported as a percentage of where it is growing from. To calculate the growth, you divide the gain by the starting point:
969.78 / 2,237.40 = 43%
As you can see, the percentages don’t add up because they are based on different numbers. Though it has risen by a higher percentage than it dropped, it is still 178.97 points lower than it was on February 19. That is 5% lower than where it peaked.
What It Takes To Recover From A Stock Market Loss
So, if a 43% gain is not enough to make up for a 34% loss, what is? What will it take to get the stock market back up to where it was before?
To calculate that, we just divide the loss by the new starting point, which was the market’s lowest point:
1,148.75 / 2,237.40 = 51%
We need a 51% increase to get the S&P 500 back up to its February heights. It sounds like a lot, doesn’t it? It is! Because of the way this works, the greater the loss, the higher the percent gain needed to dig back out of the hole. Here is a graph that shows the different gains needed to recover from different sized losses.
What It Means For You
What does all of this mean for you, personally? First of all, be careful when you see percentages represented. They are not always as they appear to be. Every percentage you see warrants a deeper look to see how it is actually calculated.
Also, be thoughtful when choosing an investment allocation. When deciding the amount of your investments that you want in stocks, it is important to understand that while they have a greater opportunity for gains they also have a greater opportunity for losses. Limiting your stock exposure will reduce your losses which means it will take less to recover from them.
If you need help choosing an asset allocation, Guide Financial Planning can help. Schedule a free call today to get to know us and how we can best help you.
About Guide Financial Planning
Guide Financial Planning is led by founder Ben Wacek, who is a Christian fee-only Certified Financial Planner™ and Certified Kingdom Advisor®. He has a passion to help people of all income levels make wise financial decisions and steward their resources from an eternal perspective using Biblical principles. Based in Minneapolis, MN, he works with clients both locally and virtually throughout the country and abroad. You can follow the links to learn more about Guide Financial Planning and our team and the services we offer.