The last few years in the stock market have actually been quite boring. Up a little, down alittle. We may be lulled into a false sense of security, believing that making money in the stock markets is a foregone conclusion. We become complacent.
Sharp declines over the past couple of weeks have jolted many nerves. The markets are currently seeing the biggest correction to hit U.S. stocks in four years. A 10% drop in value is the definition of a “correction.” The S&P dipped over 10% at one point in just a few days.
While this can be alarming, such periodic pullbacks can also be instructive. They help to keep greed in check, and remind us that making money in the stock market involves risk.
What you need to know
What information can we draw from such rapid and significant declines in the market? Markets are essentially a reflection of investors’ emotions about the economy and specifically about the future of individual companies they hold stock in. A correction can signal a “change in the weather,” a feeling that perhaps the previously held consensus of a rosy future has become less certain.
The present correction may forecast the birth of the next bear market. We can’t know. But the speed and depth of the decline suggests that investors are anxious and that we should listen.
What to do?
Check your mix of stocks and bonds. If you haven’t rebalanced in awhile, now may be a good time to take a look at the idea. You should have a mix of investments that both represents the best allocation of assets to reach your investment/savings goals, and realistically reflects your ability to assume risk. Being over exposed to stocks in this environment could be risky. You may want to seek the advice of a financial planner or advisor to help you evaluate your current mix of investments. The best mix will be one that you can stick with through thick and thin without panicking and wanting to change when stocks go down.
Check for sufficient access to cash. This is particularly important for those already retired and drawing from their investment accounts. Having six to twelve months of cash on hand is good so you don’t need to sell during a panic. Do you know how much you might need for the months ahead?
Mentally prepare yourself for a bear market
It is natural for markets to decline and bear markets to last for a while (usually a year or so.) It is also natural to feel uncomfortable when the value of your accounts goes down. When that fear button gets pushed you may feel an urge to do something. However, it is important not to do something you could regret.
Why? Because, if you’ve done your work, have a plan and an investment mix that is designed to help you toward your goals and dreams, and enough cash to carry you through – then you’ve prepared for the eventuality of a bear market. And you accept that we (as investing human beings) aren’t good at predicting where the markets will go (see recent blog on Greece for studies on the difficulty of making such predictions.) At this point – there is nothing left to do. Certainly, if you need to, ask for help!
The bottom line is this: declining markets are a part of investing and a reminder that risk comes with the prospect of investment rewards. As a fellow advisor likes to say, “You have to be there for the bad times to take advantage of the good times.”