From the collapse of the technology bubble in the early 2000s to the subprime lending meltdown that started in 2008, the markets have been anything but predictable. Case in point: The political fight over U.S. debt policies in 2011 roiled the markets and led to an unprecedented downgrade of the nation’s credit.
We’ve seen two big pullbacks in the stock market within the last 10 years, and investors are justifiably fearful that the same thing could happen again. Fortunately, investors can use two key strategies to manage their savings in the midst of an unpredictable market. The important thing is to stick to the fundamentals.
Think long term
Investors face a constant barrage of financial news and advice. From websites and newspapers to 24-hour cable news programs, recent market developments are sliced, diced and analyzed in granular detail.
But that doesn’t mean you need to react to every breaking news item scrolling across the bottom of your TV screen. In fact, making investment decisions based on day-to-day changes in the markets may actually move you further away from your financial goals.
It’s extremely difficult – if not impossible – to accurately predict the direction in which financial markets are heading. Studies have shown that investors who try to time their jumps in and out of the stock market are often rewarded with subpar performance.
For example, a recent study by research firm DALBAR Inc. titled “Quantitative Analysis of Investor Behavior: Helping Investors Change Behavior to Capture Alpha,” noted that the average equity fund investor only earned an average annual return of 3.8 percent during the 20 years through 2010. During the same period, the S&P 500 Index gained an average return of 9.1 percent a year. The S&P 500 is an unmanaged weighted index of 500 stocks providing a broad indicator of price movement. A primary reason for that investor underperformance, according to DALBAR, was investors’ habit of moving in and out of the market at the wrong times. Past performance is not indicative of future results.
It’s very difficult for individual investors to time the market. Instead, they should think about accumulating assets over a long period of time.
This buy-and-hold philosophy may be difficult to follow – particularly during volatile periods in the market. But financial markets often make considerable gains in the months and years following a downturn, and investors who stay on the sidelines and out of the stock market, for example, won’t fully benefit from those gains.
Investing for the long haul got a bad rap after the technology bubble burst and after the 2008 downturn. But it’s a strategy worth believing in.
Review your asset allocation
Adopting a long-term investment perspective doesn’t mean taking a hands-off approach. In fact, it’s important to make regular adjustments to your portfolio. Doing so is not only likely to help keep your investment strategy on track but can also help you take advantage of bargains in the financial markets.
Periodically rebalancing your investments requires you to shift your portfolio’s asset allocation – your mix of stocks, bonds and cash investments – back in line with your target allocation. For example, if stocks have performed poorly and bonds have performed well in recent months, you may find that stocks make up too small a portion of your portfolio while your bond stake has grown too large. Left unchecked, that unbalanced portfolio may be too conservative to keep you on track to reach long-term financial goals such as retirement. Remember, asset allocation cannot totally eliminate the risk of fluctuating prices and uncertain returns.
To help manage market volatility and assess opportunities that might arise, you should meet with your financial adviser at least once a year to review your portfolio and rebalance your asset allocation if market moves have thrown it off-kilter. In highly volatile markets, you may want to schedule a second yearly review.
• Patrick S. O’Connor is the managing principal, senior financial adviser, PIM portfolio manager and a chartered retirement planning counselor at Wells Fargo Advisors Financial Network off of Randall Road in Algonquin. He can be reached at 847-458-0142, emailed at firstname.lastname@example.org or at his website www.algonquin.wfadv.com.
All the best,
Patrick S. O’Connor, CRPC
PIM Portfolio Manager
Wells Fargo Advisors Financial Network
2312 Esplanade Drive
Algonquin, IL. 60102
Direct line (847) 458-0150
Email [ mailto:email@example.com ]firstname.lastname@example.org