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FT editor Roula Khalaf will select your favorite stories in this weekly newsletter.
The writer is the head of Man Ahl’s full return strategy
When US stocks lost 10% of their value in April, investors faced a familiar dilemma. Buy a dip or dodge a falling knife.
For example, those whose losses are reversed by policy loans, central bank intervention, or the promise of an artificial intelligence revolution will win. The Trump administration’s suspension on “mutual” tariffs has made the month’s rebound quick and sharp. Putting it differently, one of the sharpest V-shaped recovery on record (when the market rose rapidly after a sharp fall).
One point of the dipper. However, the friction is as follows: Is it a more attractive investment strategy as V-shaped recovery becomes more frequent and “buy dip”? i don’t think so. Even though April’s events were extreme, there is no evidence that they form part of a larger trend or dominate the future direction of the market.
Putting April’s movement in context, the drop is only surpassed by the bursting of the dot-com bubble, the global financial crisis, and the COVID-19 pandemic. This magnitude decline has only been experienced in the midst of a much deeper market correction.
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So sometimes autumn is a red herring of future performances, but otherwise it is actually foresight. Buying DIPs for Dotcom bust or the entire financial crisis caused significant capital obstacles as the market continued to decline over a long period of time.
In the latest case, as we know in the 20:20 hindsight vision, tariffs have been suspended and the stock market has regained losses. But is this reversal part of a larger trend in market lashing? The data says “No.”
Looking at all of the V-shaped recovery rates of at least 5% over the past 25 years, it does not show an increase in frequency. Undoubtedly, they occur more frequently during long recessions (2001-03), but also in the aftermath of the market corrections (2009 and 2020) and in the sustained bull stage (2006 and 2014).
On average, V-shaped inversions occur slightly twice a year, with nine in the last five years. It’s a long-term average bang. Perhaps the notion that its frequency is increasing will provide support for the concept of the Baader-Meinhof phenomenon. Named after a reader’s letter to a US newspaper, he said he has noticed more references to extremist groups on the far left of West Germany since learning of its existence.
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Let’s look forward to it. Buy The Dip’s argument is generally based on the observation that we have entered an unprecedented phase of policy uncertainty, with governments and central banks ready to support the market and horde of investors waiting for purchase during the next sale.
We are still facing an uncertain future, and the increase in V-shaped recovery remains off the table. But is that possible? That requires some big assumptions, including unlocking much of what investors know now.
The first is the assumption that all policy announcements that threaten market stability can and will be backtracked without permanent impact. The Trump administration may be unpredictable, but it appears it is not intended to destroy the US government’s bond market.
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However, financial theory suggests that if markets continue to respond vigorously to repeated policy changes, investors are less willing to pay a higher price to hold their assets. This will lower prices and prevent a quick recovery. As we did in April, expecting repeated market movements means supposing investors being completely agnostic about increased risk.
More fundamentally, predicting ongoing price action, as we saw in April, relies on the assumption that investors cannot adapt to new information. Recent patchwork of mutual tariff rollbacks, the Federal Reserve U-turns, and changing approaches to war in Ukraine means that market participants must consider the probability of major future switching of directions before they react.
Therefore, as investors adopt an “viewed as a wait” approach, it is expected that future bold political activities will lead to a more subdued market response. Policy uncertainty does not require market boomeranging.
We’ve seen a clear demonstration that bold policy announcements are not endpoints, but starting points. Investors treat them that way.
