Financial Markets and Policy Shifts

Share market falls – seven key things for investors to bear in mind

Insights from Dr. Shane Oliver, Head of Investment Strategy and Chief Economist, AMP

Key points:

• Recent share market declines stem from uncertainty surrounding US President Trump’s policies, coinciding with stretched valuations.
• It remains too early to call a market bottom, with the potential for a 15%+ correction still high, though annual returns may remain positive.
• While this will impact short-term super fund returns, it follows two years of strong gains.
• Investors should remember: market corrections are normal; deep bear markets are rare without a recession; selling in downturns locks in losses; downturns create buying opportunities; shares still provide attractive income; and tuning out market noise is key to long-term success.

Introduction

Markets often move quietly, but sharp falls grab headlines like “Billions Wiped Off Share Market” or “Biggest Plunge Since...”. Sometimes, markets rebound quickly, and the panic fades. Other times, downturns persist, sparking fear among investors.

Market corrections are nothing new. Throughout my career, I’ve seen many, and history tells us they tend to follow periods of strong gains. The latest downturn, with US, global, and Australian shares dropping nearly 9% from record highs, fits this pattern. While each downturn has unique triggers, Mark Twain’s words ring true: “History doesn’t repeat, but it rhymes.” Investors can benefit from revisiting fundamental principles during these times.

What’s driving the plunge in share markets

Several factors have contributed to the recent market drop:

• Stretched Valuations: Following a strong 2023, shares became expensive relative to bonds, leaving them vulnerable to negative news.

• Tech Sector Weakness: The “Magnificent Seven” (Apple, Microsoft, Amazon, Alphabet, Meta, Nvidia, and Tesla) drove much of 2023’s gains, making them susceptible to sharp corrections. Nvidia was hit by DeepSeek’s success, and Tesla plunged over 50% due to consumer backlash against Elon Musk.
• Sticky US Inflation: Expectations for Federal Reserve rate cuts have been revised downward.
• Policy Uncertainty: The Trump administration’s inconsistent policies on tariffs, public spending, and foreign relations have rattled investors. Market concerns intensified when Trump and his team failed to rule out a recession, with Treasury Secretary Bessent warning of 6-12 months of “pain.”
• Speculative Assets Under Pressure: The most speculative assets, including tech stocks (with the Magnificent Seven down 20%) and Bitcoin (down 23%), have been hit hardest.

Markets are now oversold, which may prompt a short-term bounce. However, continued uncertainty means further declines remain likely. Political pressure could eventually push Trump to adopt more market-friendly policies, but we are not at that stage yet. A 15%+ correction remains a strong possibility before positive forces like tax cuts and Federal Reserve easing take hold.

Key things for investors to bear in mind

1. Market Corrections Are Normal

Periodic corrections and even occasional bear markets (20%+ declines) are part of investing. History shows that markets experience setbacks, but long-term trends remain upward.

And, as can be seen in the next chart rolling 12 month returns from shares have regularly gone through negative periods.

But while the falls can be painful, they are healthy as they help limit excessive risk taking. Related to this, shares climb a wall of worry over many years with numerous events dragging them down periodically (next chart), but with the long-term trend ultimately up and providing higher returns than other more stable assets. As can be seen in the previous chart, the rolling 20-year return from Australian shares has been relatively stable and solid. Which is why super funds have a relatively high exposure to shares along with other growth assets. Bouts of volatility are the price we pay for the higher longer-term returns from shares compared to more defensive assets like cash and government bonds.

2. Recessions Determine the Severity of Bear Markets

The key factor in whether we face a mild correction or a deep bear market is the presence of a recession. While Trump’s policies have raised recession risks, our base case is that political pressure and economic factors will lead to policy adjustments that help avoid one.

3. Selling in Downturns Locks in Losses

Selling during market falls turns temporary losses into permanent ones. Timing re-entry is notoriously difficult, as markets often recover before investors regain confidence.

4. Market Declines Create Buying Opportunities

Lower share prices mean better long-term return potential. While timing the bottom is difficult, dollar-cost averaging can help smooth out entry points. Australia’s superannuation system naturally takes advantage of this by investing regularly over time.

5. Dividends Remain Resilient

Despite price volatility, dividends have remained stable. Over half of Australian companies increased dividends in the last earnings season, providing investors with consistent income.

6. Markets Tend to Bottom at Maximum Bearishness

Historically, markets rebound when sentiment is at its lowest. Warren Buffett’s advice holds true: “Be fearful when others are greedy. Be greedy when others are fearful.”

7. Tune Out the Noise

Doom-laden headlines fuel panic, but they rarely provide useful long-term insights. Market declines make news, but rebounds receive less attention. With superannuation being a long-term investment, resisting emotional reactions is crucial.

At times like these, it’s better to switch off the market commentary and enjoy the third season of White Lotus (or even some Brady Bunch re-runs).

Dr Shane Oliver

Head of Investment Strategy and Chief Economist, AMP