In the financial markets, change tends to be measured in one of two ways, numerically, that is, the Dow Jones was up 100 points today, or, as a percentage, the Dow Jones was up approximately 0.5%. While both methods of measurement say the same thing, under some circumstances they may not be immediately seen as being essentially identical.
Consider the potential, short-term reaction to possible, headline seeking media coverage of a future market correction.
Market corrections, defined by Wikipedia as a reverse movement, usually negative, of at least 10% in a stock, bond, commodity or index to adjust for overvaluation. Corrections are generally temporary price declines interrupting a longer term uptrend in a market or asset.
Stock market corrections are an inevitable part of investing. Since 1932, declines of 10% to 20% have occurred an average of every two years.
The issue is not, will we see a correction some time in the future, but how will people react when a 15% correction in the Dow Jones amounts to more than 3,000 points?
Investors should be careful to look at price changes in context. A percentage price change is equally material if the base is 1,000 or 20,000, but the numerical change can appear to be quite dramatic, particularly if reported in a dramatic manner.
Investment decisions, like many others, generally benefit from a “look before you leap” approach.
All comments and suggestions are welcome.
Walter J. Kirchberger, CFA®