Handling Market Volatility

How you choose to invest your money should be consistent with your goals and time horizon. In today’s market, it is easy to get caught up in the day-to-day gyrations and it can be tough to handle when it’s your money at stake. Though there is no foolproof way to handle the ups and downs of the stock market, the following common sense tips can help.

Don’t Put Your Eggs All in One Basket

Diversifying your investment portfolio is one of the keys to handling market volatility. Because asset classes typically perform differently under different market conditions, spreading your assets across a variety of investments such as stocks, bonds, and cash equivalents (e.g. money market funds, CDs, and other short-term instruments), has the potential to help reduce your overall risk. Ideally, a decline in one type of asset will be balanced out by a gain in another, but diversification cannot eliminate the possibility of market loss.

One way to diversify your portfolio is through asset allocation. Asset allocation involves identifying the asset classes that are appropriate for you and allocating a certain percentage of your investment dollars to each class (e.g. 70 percent to stocks, 20 percent to bonds, and 10 percent to cash equivalents). An easy way to decide on an appropriate mix of investments is to use a worksheet or interactive tool that suggests a model or sample allocation based on your investment objectives, risk tolerance level, and investment time horizon.

It’s a Marathon, not a Sprint

As the market goes up and down, it is easy to become too focused on day-to-day returns. Instead, keep your eyes on your long-term investing goals and your overall portfolio. As we like to say, think of it as a “marathon” and not a “sprint”. Although only you can decide how much investment risk you can handle, if you still have years to invest, do not overestimate the effect of short-term price fluctuations on your portfolio.

Look Before You Leap

When the market goes down and investment losses pile up, you may be tempted to pull out of the stock market altogether and look for less volatile investments. The small returns that typically accompany low-risk investments may seem attractive when more risky investments are posting negative returns.

But before you leap into a different investment strategy, make sure you are doing it for the right reasons. How you choose to invest your money should be consistent with your goals and time horizon.

For instance, putting a larger percentage of your investment dollars into vehicles that offer safety of principal and liquidity (the opportunity to easily access your funds) may be the right strategy for you if your investment goals are short-term or if you are growing close to reaching a long-term goal such as retirement. However, if you still have years to invest, keep in mind that stocks have historically outperformed stable value investments over time, although past performance is no guarantee of future results. If you move most or all of your investment dollars into conservative investments, you have not only locked in any losses you might have, but you have also sacrificed the potential for higher returns.

Look for the Silver Lining

A down market, like every cloud, has a silver lining. The sliver lining of a down market is the opportunity you have to buy shares of stock at lower prices.

One of the ways you can do this is by using dollar cost averaging. With dollar cost averaging, you do not try to “time the market” by buying shares at the moment when the price is the lowest. Instead, you invest money at regular intervals over time. When the price is higher, your investment dollars buy fewer shares of stock, but when the price is lower the same dollar amount will buy more shares.

Although dollar cost averaging cannot guarantee you a profit or avoid a loss, a regular fixed dollar investment plan may result in a lower average price per share over time, assuming you continue to invest through all types of markets. You should consider your financial ability to make ongoing purchases, regardless of price fluctuations.

Don’t Stick Your Head in the Sand

While focusing too much on short-term gains or losses is unwise, so is ignoring your investments. You should check up on your portfolio at least once a year, more frequently if the market is particularly volatile or when there have been significant changes in your life. You may need to rebalance your portfolio to bring it back in line with your investment goals and risk tolerance. A financial professional can help you decide which investment options are right for you.

Don’t Count Your Chickens Before They Hatch

As the market recovers from a down cycle, elation quickly sets in. If the upswing lasts long enough, it is easy to believe that investing in the stock market is a sure thing, like many people thought in the late 1990’s. But of course, it never is. As many investors have learned the hard way, becoming overly optimistic about investing during the good times can be as detrimental as worrying too much during the bad times. The right approach during all kinds of markets is to be realistic. Have a plan, stick with it, and strike a comfortable balance between risk and return.