Welcome back from Labor Day weekend... sort of. For bulls, the shortened week got off on the wrong foot, with the always iconic Dow Jones Industrial Average (DJINDICES: ^DJI) falling 234 points on Tuesday, Sept. 5. At one point during Tuesday's trading session, the Dow troughed at a low of minus-278.
What precipitated the notable move lower in the Dow? While Hurricane Harvey hangover could take a portion of the blame, most of the concern ties to the detonation of an alleged hydrogen bomb in North Korea over the weekend. It's no secret that the United States and North Korea are enemies, and a lack of recent diplomacy between both countries, coupled with strong rhetoric by Defense Secretary James Mattis and President Trump, have investors concerned that a conflict may be unavoidable. Wall Street loathes uncertainty, and North Korea's weekend nuclear test created a lot of new uncertainties for the investment world to digest.
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However, fear and uncertainty should be the furthest things from your mind if you're a long-term investor. Taking North Korea's nuclear test into account, as well as yesterday's 234-point drop in the Dow, here are three important things you need to know.
1. North Korean nuclear tests are an extremely short-term issue
To begin with, it isn't a good thing that North Korea has nuclear capabilities and is testing those weapons. But it's also not considered a long-term concern, according to Wall Street. Here are the six dates that North Korea is known to have tested a nuclear weapon on its soil, along with the initial reaction in the Dow based on the next business day:
- Oct. 9, 2006 (up 7 points)
- May 25, 2009 (up 196 points)
- Feb. 13, 2013 (minus 35 points)
- Jan. 6, 2016 (minus 252 points)
- Sept. 9, 2016 (minus 394 points)
- Sept. 3, 2017 (minus 234 points)
Only within the past two years have we witnessed a decisively negative reaction to North Korea's testing its nuclear capabilities. Nevertheless, in each of the previous five instances, not counting yesterday's 234-point drop, the Dow has very quickly put any downward move in its rearview mirror.
The yellow highlights in the preceding chart indicate the rough time frame when North Korea tested its nuclear weapons. At no point have these tests led to a prolonged period of weakness in the Dow or U.S. stock market as a whole.
In other words, stop worrying so much about Tuesday's drop in the Dow.
2. The Dow's drop was pedestrian
The second thing investors should pay close attention to is that while a drop of 234 points in the Dow might be larger than what we're used to in a historical sense, it was nothing more than a pedestrian move, all things considered. A 234-point drop in the Dow only works out to a 1.07% decline in the index. Chances are that the Dow has witnessed thousands of 1% moves over its storied history spanning 121 years, meaning yesterday's move was far from special.
If we were to see a true "plunge" in the Dow Jones Industrial Average, we would need a percentage decline of 7% or greater just to crack the 20 worst sessions in the index of all time. Based on the closing value in the Dow before Labor Day, we're talking about a greater than 1,500-point drop. Yesterday's 234-point decline wasn't anywhere near that level – nor was it even close to the 470 points needed to make the list of the 20-largest point drops of all-time, regardless of percentage decline.
What investors have to realize is that the Dow has appreciated a lot over time, so larger point swings are possible and expected. A 508-point drop back in 1987 wiped more than 22% off the Dow in a single session, while today a 508-point drop would hardly make a 2.3% dent in the index. Everything is relative.
3. The numbers don't lie: Buy and hold with confidence
Lastly, investors occasionally need a good reminder of the data that backs up the buy-and-hold investment thesis. While true that not all stocks will move higher over the long run, and also true that peaks and troughs are a natural part of the economic cycle, bull markets always seem to win out over pessimism.
According to data from Yardeni Research, the S&P 500 (SNPINDEX: ^GSPC) has undergone 35 stock market corrections of at least 10%, when rounded to the nearest whole number, since Jan. 1, 1950. That's about one correction an average of every two years, just to give you a rough idea of how common stock corrections are. However, each and every last one of these 35 stock market corrections has been buried by a bull-market rally. Sometimes it takes weeks, months, or in rarer cases years, to completely retrace a drop in the broad-based S&P 500, but in 35 out of 35 instances that's exactly what's happened.
Though there are no givens when it comes to investing, you're probably not going to get closer to a surefire data point than this: Buy and hold with confidence over the long run.
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