Emotions and Equities —The Dissection of a Market Correction

Case Study: Jack and Jill, both 60, are a few years from full retirement. They own a mortgage-free townhouse and have accumulated $1.5 million in retirement assets split evenly between fixed income and global equities.

Jill has a defined benefit pension of $3,400/month starting at age 62. They also hold $350,000 in cash from downsizing their home. With 60% of Canada Pension Plan and full Old Age Security, their government and pension income will cover about 70% of their retirement needs.

It’s March 2007.

When the 2008 financial crisis hit, it took approximately 28-36 months for a moderate growth portfolio to recover, assuming no withdrawals. But during the downturn, Jack and Jill, like many, faced tough decisions with limited clarity. Recency bias loomed large. When offered the chance to rebalance portfolios, which required selling appreciated fixed income to buy equities at a 50% discount, they decided to wait. Friends were making drastic moves, and they felt compelled to act. They sold $100,000 of equities to cash. Not everything, just enough to feel proactive. At the same time, their credit union offered a 3-year GIC at 3%, and they locked in their $350,000. Headlines screamed “sell,” and their closest friends moved entirely to cash. Jill had just set up her Facebook account to keep up-to-date with her grandchildren’s adventures and her feed was filled with articles about the stock market. This downturn felt different.

By March 2009, markets began to surge. The news was still grim, but the recovery was well underway. Over the next few years, markets skyrocketed. Jack and Jill, now retired, had regained confidence. They repurchased the equities they had sold and reinvested their GIC proceeds into growth assets. It felt like a good time to leave GICs for something with more growth potential. The crisis was in the rear-view mirror.

Understanding Market Corrections

Corrections are a normal part of investing. Short-term declines of 10-20% differ from bear markets (20%+ declines) and recessions (two consecutive quarters of economic contraction). On average, one correction occurs annually, lasting about 72 days with a 15.6% drop. Most are temporary setbacks in ongoing bull markets and are massive opportunities, not threats.

Since 1980, there have been 39 corrections in the U.S. stock market and only six became bear markets. That’s just 15%. The other 85% were recoverable dips. In 45 years, using US market data, 38.25 years have ended higher than they started. This is very important information to know.

Why Investors Struggle During Corrections

The Dalbar Study: How to Cut Your Returns in Half
The Dalbar Quantitative Analysis of Investor Behavior shows that investors consistently underperform the market, not due to poor investments, but poor timing. Panic selling during corrections or even partial panic selling locks in losses and causes investors to miss rebounds. Ironically, most feel confident to invest only after sustained gains. The result? The average investor captures just half the market’s returns.

Money Flows and Missed Opportunities
During corrections, money often flows out of equities into cash or bonds, usually at the worst time. This “flight to safety” locks in losses and forfeits the gains that follow. It’s a double hit: realized losses and missed growth. Constantly moving in and out of the market undermines compounding, the engine of wealth creation. As advisors, we see less of the extreme panic selling, but we see more of the partial panic selling.

Behavioural Biases at Play (During a downturn)

• Confirmation Bias: Investors seek out information that supports their fears, ignoring signs of recovery.
• Endowment Bias: Investors often overvalue what they already own, resisting necessary portfolio changes.
• Overconfidence: Some believe they can time the market, leading to “getting out now, to get in at the bottom.”

Rebalancing: A Missed Discipline
Rebalancing is essential, especially during corrections. Yet many investors avoid it. Why? Because it requires you to do what you should do, at exactly the time you do not want to do it. Rebalancing isn’t about timing; it’s about discipline and math.

Media Noise
Media coverage during corrections is relentless and often alarmist. Sensational headlines and social
media amplify fear. Investors struggle to separate useful insights from clickbait, leading to emotional, not rational, decisions.

Misunderstanding Valuations
Falling prices don’t always mean failing companies. Corrections often present buying opportunities. In real estate terms, a significant price decline is defined as a buyer’s market. Why not apply the same logic to equities?

Emotions Masquerading as Logic
Fear and greed often disguise themselves as rational thinking. Selling “just a little” or chasing rebounds may feel prudent, but these moves are often emotionally driven and counterproductive.

Accepting the Inevitable
Market downturns are as predictable as rain in Vancouver. They’re not anomalies, they’re part of the cycle. Accepting this helps investors stay the course, rebalance with purpose, and seize opportunities when others panic. Corrections are not to be feared, even in the years just before retirement, they’re to be understood.

With awareness of behavioural traps and a disciplined approach, you can navigate volatility with confidence and turn temporary setbacks into long-term gains. ■