After a quiet and steady bull market in 2017, stock market volatility returned with a stomach-churning vengeance in late 2018, conjuring unpleasant memories of the Great Recession of a decade ago and reminding investors just how important it is to take steps to protect their assets from the wild, unpredictable market swings that are all too common these days.
Market volatility can tempt people to behave irrationally and take actions in the moment that might not be in their best financial interests. Staying true to their long-term financial strategy and goals is the best defense against the vagaries of the stock market.
To resist the temptation to make a hasty decision on your investments, financial professionals suggest following four investing fundamentals, explained below:
Ensure assets are appropriately diversified. Diversification means strategically allocating assets across and within the various classes: stocks, bonds/fixed investments and cash. Diversification applies to a person’s entire asset base, including retirement accounts, such as 401(k)s, IRAs, a stock portfolio and more. The goal is to build a mix of assets whose behavior doesn’t always move in lock-step. This helps to level out the peaks and valleys in the overall performance of a person’s financial portfolio, while still producing a certain level of long-term growth.
Have a cash reserve. A cash reserve is an important fundamental of asset diversification that affords investors protection from market volatility and prepares them to handle sudden financial challenges. This is particularly important for people who are approaching retirement or already retired. Having a substantial cash reserve allows flexibility in how and when they draw income for retirement. Say, for example, the value of an investment portfolio on which a person is relying for retirement income drops substantially. Rather than selling off stock or some other asset to generate income in this circumstance, the person can instead draw income from their cash reserve while they wait for their investments to recover their value.
Focus on long-term investment goals and the big picture. This is about keeping the right perspective and mindset. Stock market volatility can drive people to make panic-driven, knee-jerk decisions that aren’t in their best interest. Instead of following the “buy low, sell high” investing credo, some might panic and do the opposite, selling investments when their value has plummeted instead of waiting out the downturn and letting those investments recover in value. Reminding yourself of your long-term retirement strategy and goals will help keep market behavior, positive or negative, in perspective, and hopefully help you resist the urge to make unwise snap decisions about your assets.
Build out the fixed income part of your portfolio. Generally speaking, it’s appropriate for investors to allocate some portion of their assets to fixed-return vehicles, such as bonds, especially later in life. When the stock market is down, the value of these fixed vehicles will often be stable or even increase in value. If the value of their stock investments drops, they can rely more heavily on income from fixed investments, giving their stock investments time to recover.
JASON E. SIPERSTEIN, CFA, CFP, is the president-elect of the Financial Planning Association of Rhode Island and vice president of Eliot Rose Wealth Management. He can be reached at firstname.lastname@example.org.