I recently read a fantastic article in the Wall Street Journal on how Biden seems intent on making transitory inflation last. As I read through the article, I was thinking about how everything in our life is transitory and the importance of defining terms and time horizons to help us set proper expectations.
Big Historical Events Were Transitory
The author states correctly that the Great Depression was transitory. So was the Civil War and every war mankind has engaged in. The Great Financial Crisis was transitory. Basically anything that happens in life, no matter how long it lasts, is transitory so long as it has an end…eventually. Heck, you could even say that our entire mortal lives are transitory.
Will “transitory” become the word of the year? Based on all its discussion with respect to inflation, it certainly should at least be in contention. The definition of transitory is “of brief duration, not persistent.” But therein lies the ambiguity. How long is “brief”? How we define “brief” is subjective based on the individual and activity undertaken. Is 30 minutes brief? Not if you are holding your breath. What if you are an investor? 30 minutes shouldn’t even register.
Transitory Events Can Cause Permanent Damage
We may amuse ourselves debating whether something is transitory or not, but what really matters is that an event can cause great damage regardless of how transitory it is. Millions have died in transitory wars. Many people suffer throughout their lives due some transitory abuse they experienced. Many investors had to significantly adjust their lifestyle from the transitory Great Financial Crisis. However, that last example was not due to the transitory bear market, but that investors sold during a transitory event to make their loss permanent.
Understanding that things are transitory can help us put things into perspective, especially when it comes to investing. Regression to the mean, also known as reversion to the mean, is a statistical term that often plays out in the investment realm. It means that when securities experience a period of significant outperformance (or underperformance) it usually is followed by a period of underperformance (or outperformance). We see this all the time in the markets due to economic cycles and the way we adapt to good and bad outcomes. We could, and perhaps should, rename this term to “Everything is Transitory.”
Historically, the markets have never not recovered from a significant downturn. The adage, “this too shall pass” is embraced by some of the most successful investors. Investors that construct an investment portfolio in line with their situation, needs, goals, and risk preference may be able to better withstand the transitory bear markets so they can more fully participate in its more permanent wealth creation powers.
How Do You Define ‘Transitory’?
As investors define their time horizons more succinctly, they improve the odds that they make thoughtful, rational decisions even in highly emotional times. Those investors that track the market and their account values often will experience more of the natural volatility of the stock markets. Those that don’t pay attention other than the annual reviews (or less) may be able to withstand a portfolio that fluctuates more throughout the year.
Financial advisors need to do a better job of defining ambiguous terms such as “short-term” and “long-term”. One investor may define short-term as one month and another may define it as three years. We need to be sure we are defining the terms we use the same way. The majority of issues investors have with their advisors is communication in nature. Whether that is an issue with transparency, responsiveness, or simply defining subjective and ambiguous terms so we better understand each other.