Sunday Update: 14 October 2018

Week 2 of October 2018 and the pain continues for the TSP stock funds!  For the week the C fund was down 4.1%, the S fund down 5.02% and the I fund was down 3.85%.  We’ve taken a beating…  Is it over or is it just the beginning?  Should I move everything to the G fund now?  Should  I move everything into the stock funds now since they are so beaten down?  Should I just ride this out since the market always goes up?…  Whether you’re in the stock funds or the G fund, you’ll want to read this post a few times.  You need to keep your head in the game, emotion out of the equation, and make decisions based on your circumstances and risk tolerance.  This post will help you do that! 

We are going to focus solely on the S&P500 (C Fund).  We’re going to look at where we are now and where we may be going, using 3 examples from the most recent market crashes of 1987, 2000, and 2008.  We’ll look at both long and short term charts of each crash and see how trend lines and moving averages can help manage expectations and identify the best times to reallocate between the stock funds and the G fund.

It’s been a brutal October!  The C fund has dropped almost every day, losing just over 5% so far for the month.  The questions is, is this the beginning of something bigger or just a flash crash that will recover quickly to new highs?  There is obviously no way to answer this question.  The best we can do is look at examples from past crashes and get a sense of how the market may react going forward.  No two crashes are exactly the same but, there are tools we can use to manage the risk and maximize the upside going forward.

Market Crash of 2018 (Long Term Chart)

If you’ve been following the Sunday Updates, you’ve seen this chart a lot!  The rally that began in 2009 MAY be coming to an end.  We don’t know yet but it will become very clear over the next several weeks.  For now, the C fund is sitting on its short term trend line.  This line has acted as a floor for prices since 2016.  The C fund must stay above this line for the rally to stay in place.  If the short term trend line does not hold, the long term trend line puts the price at about 2200 which is a 20% decline from the current level.  We DO NOT want to absorb that loss…  The 1987 crash analysis below shows what it looks like when a short term trend line is violated and the price picks up at the longer term trend line.  It’s ugly!

Market Crash of 2018 (Short Term Chart)

The 3 year chart below shows how the price has found support at the 200DMA at each significant correction since 2016.  It is LIKELY that the C fund will find support here.  The question is, will the recovery rally stall out at the 50DMA or continue to new highs.  The 50DMA acts as a floor for prices during a Bull Market and as a ceiling for prices during a Bear Market.  We’ll look at examples from the crashes of 2000 and 2008.  For now, we wait to see if the 200DMA holds.

Market Crash of 1987 (Long Term Chart)

In the crash of 1987, the market lost 32% of its value in a matter of days!  It dropped down to its short term trend line, paused briefly, then gapped down again finding support at its long term trend line.  There was no recovery rally after this crash.  It took almost 2 years before the C fund recovered to its prior high.  Scroll back up to the first chart in the post and compare.  The similarities are eerie!

Market Crash of 1987 (Short Term Chart)

In 1987 the C fund blew right through its 200DMA.  The worst case scenario right now is a repeat of this chart over the next 2 weeks…  Because there was no recovery rally immediately following the crash, anyone invested in the stock funds either held their positions and ultimately recovered or locked in massive losses by moving to the G fund.

Market Crash of 2000 and 2008 (Long Term Chart)

The market crashes of 2000 and 2008 were drastically different than 1987.  They were much more orderly Bear Markets, giving investors several opportunities to minimize losses by moving from stock funds to the G fund during recovery rallies.  They were also ultimately much deeper Bear Markets than 1987.  While the top to bottom loss in 1987 was about 35%, the losses in 2000 and 2008 were about 50% and 55% respectively.  

Market Crash of 2000 (Short Term Chart)

From mid 1999 thru 2000 we saw lots of volatility with the 200DMA acting as a floor for prices.  A double top pattern emerged which was the first sign of potential problems.  In October 2000 we lost the 200DMA and the market dropped about 10%.  The recovery rally brought prices back up to the intersection of the 50DMA and 200DMA but could not push higher.  At this point, investors had recovered most of their losses.  This was the BEST time to reallocate from stock funds to the G fund.  From the high in September 2000 to the top of the recovery rally, investors who moved to the G fund locked in a loss of about 5%.  Those who did not move to the G fund saw their accounts reduced by 50%!  It took until early 2007 for the C fund to get back up to the 1450 level.  Those who moved to the G fund during the recovery rally locked in a small loss but had a huge opportunity to double their account balance by reallocating back into the stock funds when the trend turned positive in April 2003.

Market Crash of 2008 (Long Term Chart)

The crash of 2008 began as a slow roll over in 2007.  The C fund hit the 1550 level twice in 2007 before rolling over.  This is significant because 1550 was just above the 2000 high; setting up a long term double top pattern.  From the high in October to the low in November the market dropped 11%.  The recovery rally failed just above the 50DMA with prices pulling the 50DMA below the 200DMA.  This was the beginning of the 2008 crash.  Investors who moved to the G fund on this recovery rally locked in about a 5% loss from the October 2007 high.  Prices dropped significantly from this point and ultimately formed a double bottom in early 2008 then recovered up to the 200DMA.  This failure at the 200DMA was the last best time to reallocate to the G fund.  Those who moved to the G fund at the 200DMA in June 2008 locked in a 10% loss from the 2007 high.  Those who rode it out in the stock funds saw their accounts reduced by over 55% from the October 2007 high to the low in 2009.  The C fund did not see the 1550 level again until mid 2013!  

Ok, there is a lot here to take in.  The goal of this post is to get you to look objectively at where we are, get your mind around what is likely coming next, and to use the tools to manage downside risk.  There is no way to know what will happen next week.  If we’re lucky, the market will rebound to new highs and we’ll be having a completely different conversation in late November.  Let’s hope that’s how it plays out but, HOPE IS NOT A STRATEGY!  

If you’re in the stock funds you’ve taken some significant paper losses so far in October but, we have not yet had an opportunity that a recovery rally will present.  Stay focused on the chart and make educated decisions going forward.  The worst thing you can do right now is to focus on the dollar value of your account…  Please post questions to comments or FaceBook.

Have a great week!

Jerry