July, 2022
When you consider reducing your stock allocation due to bear market pain, balance the regret you feel as markets go down with the regret of missing out when things turn around.
Today people we know are worried about so many things. Prices are up for necessities like food or gasoline. Markets along with investment accounts are down. Interest rates are rising making major financial decisions like house buying difficult. Added to this is stress you may feel due to your job, the unending pandemic, and the health of loved ones.
If non-stop media news about market volatility has you stressed about your investments, then it’s time to review how our way of investing can give confidence and peace of mind even in times of bear markets.
First, there is no safe way to get a high return. Good planning will prepare you for times when market prices unpredictably fall; plan design takes that into account. Good planning also prepares you for sudden market rises — very often, unexpectedly when things seem only to be getting worse. We believe education from good planning, professionally done, should keep you willing to be invested even during stressful times.
But investing strategies cannot be the same for everyone. Each of us has a different situation. Our goals are different. Where we live is not the same. Our stage in life is different. How people tolerate risk depends on how their brains are wired, how secure their jobs, and what experiences they have endured over their lifespans.
After my mother had a serious stroke, I went to bank after bank finding her accounts only earning 2 or 3 percent interest. Mom, unlike Dad, didn’t listen much to my advice. But Mom had lived through the Depression and grew up on a north Texas dirt farm. Years later she helped our family survive a financial crisis after my father had a spinal injury while in service that ended a Naval career dating back to World War II.
The few stock or mutual fund stock investments Mom ever had, never lasted long even though she made money each time. She did what she needed to feel safe, based on the life she had lived. Mom always lived frugally and even continued to work until she was 70. She reminisced about the good old days of the 1980s when banks paid double digit interest rates when inflation was higher than today.
That’s not my plan, but it was hers. Everyone is different.
Investing during volatile times
Everyone who invests will have ups and downs in their personal portfolios. So how will you plan for volatility?
First, answer the question, “Why are you investing?” It’s not a plan if you haven’t declared goals, goals you truly care about. If you want to retire comfortably in 30 years, you likely are able and must bear more risk to maximize the growth of your portfolio over such a long time than you would if you intend to retire three years from now. Regardless you still must save regularly.
Then, determine what balance of bonds and stocks within diversified portfolios makes sense for your planning goals and is comfortable for you. If you choose a lower proportion for equity allocation, you may feel better when markets go down, but you must balance that sense of relief with feelings of missing out on growth opportunities as businesses recover and markets go up, usually far more than they previously declined.
Lastly, focus your efforts on controlling what is under your control — like saving more and spending less, or keeping taxes lower.
When you find yourself tempted to change, consider whether you’re simply exchanging one long-term strategy for another — in effect, a perverse form of market timing. Trying to time short-term market moves by attempting to avoid losses has more in common with speculating than with building wealth.
When I look back over my past 40 years of investing, I can make a long list of all the surprising shocks that caused financial markets to go down. People complain about higher interest rates today, but I remember buying a house in Fairport with a loan that had a 12% interest rate back in the 1980s. I didn’t like it, but I didn’t have a choice if I wanted to buy that house.
We must accept that economic shocks will happen again and again. Rather than trying to predict them, we should prepare for them. This time in the aftermath of Covid lockdowns, there is inflation, fear of a recession, increased market volatility, Russia making war. We can’t know when the aftermath of this shock will end, or when the next one will occur. The only guarantee I can offer you is that what happens as it impacts the markets is going to be a surprise — because if it weren’t, markets would already have incorporated that event in the aggregate of stock prices that comprise those markets.
The High Cost of Timing Gone Wrong
The negative impact of market timing gone wrong, even over short periods, can be surprisingly large, as shown by the hypothetical portfolio below made up of the Russell 3000 Index, a broad US stock market benchmark.
A hypothetical $1,000 investment made in 1997 would have turned into $10,367 for the 25-year period ending December 31, 2021. Over that same period, if you miss the Russell 3000’s best week, which ended November 28, 2008, the value shrinks to $8,652. Miss the three best months, which ended June 22, 2020, and the total return dwindles to $7,308. We have former clients who made each of those mistakes.
Exhibit 1: What Happens When You Fail at Market Timing
Russell 3000 Index of US Stocks, Total Returns For Selected Periods Over Past 25 Years
Past performance, including hypothetical performance, is not a guarantee of future results.
In US dollars. For illustrative purposes. Best performance dates represent end of period (Nov. 28, 2008, for best week; April 22, 2020, for best month; June 22, 2020, for best 3 months; and Sept. 4, 2009, for best 6 months). The missed best consecutive days examples assume that the hypothetical portfolio fully divested its holdings at the end of the day before the missed best consecutive days, held cash for the missed best consecutive days, and reinvested the entire portfolio in the Russell 3000 Index at the end of the missed best consecutive days. Data presented in the Growth of $1000 exhibit is hypothetical and assumes reinvestment of income and no transaction costs or taxes. The data is for illustrative purposes only and is not indicative of any investment. Indices are not available for direct investment. Their performance does not reflect the expenses associated with the management of an actual portfolio.
Although many advisors claim otherwise, there’s no evidence that market timing can be done successfully — that is, targeting the best days or moving to the sidelines to avoid the worst. Our experience strongly suggests staying put through good times and bad. As we see in our example, missing only a brief period of strong returns can negatively impact previous performance enormously. A disciplined approach with a sensible diversified portfolio strategy not only better positions you to capture what financial markets have to offer, but greatly lessens that troublesome worry about missing out when markets eventually, but unpredictably, make their major turn upward once again.
Clients who evaluate their accounts in terms of decades when investing rather than months or years have the greatest chance of capturing the power of markets as they compound wealth. Capturing relatively small extra gains consistently adds up over time. This helps explain why over the past 95 years for which we have reliable data (with periods of many shocks like the recent one), the return for the broad U.S. stock market has been around 10% a year.1 Markets rarely return 10% in any one year. But long-term investors focused on a diversified portfolio have been rewarded with something like that long-term average. However capturing such a return invariably meant enduring and holding on through tough times like today.
Conclusion
We don’t know how long today’s big bear market will last. Based on how I read the continuing news reports as a CFP® professional, I think that stocks are on sale and rebalance my portfolio to targets I planned:
- Bonds have become 10% cheaper in the past six months.
- Emerging market and international stocks got 18% and 19% cheaper, respectively.
- Large U.S. stocks have become 20% cheaper.
- A major index of smaller stocks got 23% cheaper.
- Big growth stocks got 28% cheaper.
Since most manager’s efforts to actively outguess changes in market prices will result in underperformance most of the time, here’s good news you can use: You can reliably capture market return without the futility of forecasting or vainly searching for someone who can — just follow Professional Financial’s wealth planning process.
Over my long career, so many people have been enriched from creating a sensible plan they could stick with. Nothing is easy, but financial planning is the best way I know to invest successfully for the long-term. We apply one philosophy using strategies grounded in financial science that dates back decades. To deliver a better investing experience for you, we use the accumulated expertise, judgement, and skill of some of the smartest people in finance around to help us make well-informed decisions in these tough times.
Through time, we’ve experienced a wide range of markets and the business cycles they encompass. Clients have stayed with us, and our firm grew as their portfolios grew. We recognize that every dollar invested through us represents their hard work, savings, and dreams for their future and for their families. We deeply appreciate the trust clients have placed in us for so many years and do our best to honor that trust.
1.In US dollars. S&P 500 Index annual returns 1926–2021. S&P data ©2022 S&P Dow Jones Indices LLC, a division of S&P Global.