As recently as January, the decade-long bull market was charging ahead at full speed, with corporate profits bolstered by tax cuts and both the S&P 500 and the Dow registering record-setting peaks. Yet, less than two weeks later, on February 5th, press photos of day traders biting their nails on the exchange floor told a different story; the S&P was down -7.17% and the Dow had set yet another record, this time by plunging 1,175 points—the largest one-day drop in history.
Now, two months into a stiff market correction, the law of gravity remains in full effect: what went up in January is coming down. Hard—if you listen to the headlines. But should you?
Well, yes and no.
According to a 2017 Gallup poll, roughly 54% of Americans participate in the stock market, typically in the form of a 401(k) or similar retirement savings account. The closer you are to retirement, the more intimidating stock market tantrums can be since older investors have less time to recoup losses than their younger counterparts and, usually, more money at stake. If this is you, it can be helpful to schedule a regular reset for your portfolio.
However, when the market stutters, it’s also important to keep your emotions under control. Remember: you’re in it for the long-haul, and pulling out after a short-term downturn can lock in your losses—costing you more money in the long run, and impacting your retirement plans.
That’s why we’ve created this complete guide to market volatility—so you can keep your future stable even when the market isn’t.
What is Market Volatility?
In general, volatility refers to the uncertainty or risk
associated with a particular stock. This means that, over the same period of time, a stock with high volatility will often hit higher highs—and lower lows—than a stock
with low volatility. Market volatility takes this same concept and applies it to the market as a whole, giving investors a kind of barometer for risk as they decide where and how to allocate their assets.
What’s Happening Now
It’s no secret that the market has been in a state of turmoil since early February. It can be hard to know what to expect, particularly when a quick glance at the first page of Google results for “stock market news” yields such optimism as “America’s Confidence in the Stock Market is Crumbling” (CNNMoney) and “Stock Volatility and Changing Fed Policy Have Killed the ‘Buy the Dip’ Mentality” (Marketwatch). According to the headlines, we are either careening full-tilt toward collective financial ruin, entering a bear market death spiral or, in the case of one particularly gruesome Business Insider article, witnessing a “market-wide bloodbath.”
Using similar alarmist tactics, pundits across the political spectrum have blamed the recent volatility spike on everything from tariffs to wage growth to robo-advisors. And, while all these things certainly play a role in market changes, and may exacerbate volatility, the truth is we are still riding the second longest bull market in history and were long overdue for a correction.
As for that historic 1,000+ Dow point-drop sending investors into a tizzy–due to wild market gains at the end at 2017, it doesn’t even make the top twenty when it comes to percentage losses, which is what really matters when it comes to your investment returns.
Thus, while notable, the market’s current volatility is neither catastrophic nor entirely unexpected. But if volatility is a normal and inherently unpredictable feature of the stock market, it begs the question why anyone would trust their money to an unstable market in the first place?
How Volatility Can Impact Your Retirement
For most investors, we know as a general rule that with higher risk comes the possibility for higher returns as well as greater losses. However, for investors nearing retirement, the situation becomes more complex. With less time to wait out a market slump and the added onus of regular portfolio withdrawals, even a small amount of volatility can be painful.
This is particularly true in the three years before—and the first five years after—you retire, a process called sequence of returns risk.
Think about it: the day you retire, your asset pool is at its largest. But, as you begin withdrawing an income from your investments (usually by selling stock), a wild plunge in the market could leave you selling more shares when prices are low, significantly reducing the assets you had planned to draw on later. Suddenly, you’re living every retiree’s nightmare: the nest egg that was supposed to see you through the next thirty years won’t even cover this one.
Luckily, there are steps you can take to lower your risk and protect your hard-earned money.
Building Your Own Stability
Whether you already have an active portfolio or are interested in starting one while stocks are effectively on sale, it pays to know the basics of managing risk exposure in a volatile market.
1. Stay Calm
Liz Ann Sonders, Chief Investment Strategist at Charles Schwab, probably says it best: “Panic is not an investing strategy.” If you’ve been carefully investing for several years, leaving the market now while prices are low will prevent you from recovering losses when the market does rebound. During the early years of retirement, it’s crucial to focus on making financial moves that are conservative and well-planned. Jettisoning all of your stocks is neither. Instead, take the time to sit down with a financial advisor and discuss your worries. How will volatility impact your portfolio? What are the (calm, rational) steps you can take to protect your assets and ensure growth when the market stabilizes?
2. Review Risk Tolerance
Accurately assessing your risk tolerance–the amount of risk you can handle financially as well as psychologically—is a crucial part of finding the right asset allocation. If you haven’t looked at your risk tolerance in a few years, it might be time to make sure your current investment strategy is still aligned with your goals.
3. Reset your assets
While you might have intended to keep your assets at a reasonable 40% stock / 60% bond balance, your portfolio may have shifted to favor stocks more heavily during the 2017 run-up. Now, while the market is still technically bullish (a bear market is a decrease of at least 20% from the last peak) is the time to readjust your allocations. If you’re in those crucial early retirement years, you may even want to decrease your stock holdings to 30%, a balance that has kept losses down to single digits during even the most devastating crashes.
4. Sell Smart
If you find that you do need to sell stock, make sure you’re letting go of the most vulnerable funds first. During a more stable market, it might have been fun to speculate on odd-ball industries by investing in something like the Organics ETF or GAMR, the video game tech fund, but these impulse buys might not be appropriate for your long-term strategy and can make it more difficult to monitor your overall performance. Your financial advisor can help you identify which stocks to sell and which to hold onto.
5. Play Defense
Defensive assets like cash, precious metals, and treasury bonds offer greater stability when markets waiver. When selecting defensive assets, look for liquidity (how easily an asset can be converted to cash), marketability (ease of conversion between stocks), and principal protection (guarantee that you’ll get back at least what you initially invested, i.e. your principal is protected against loss).
Finally, the most important piece of investing advice:
6. Become a Basket Case
Don’t worry, we’re not suggesting you horde cats or take up extreme bagpiping. What we do suggest, however, is that you keep your nest eggs in multiple baskets. Three baskets to be precise: one with cash and CD’s, one with short-term bonds that will turn over quickly and insulate you from rising interest rates, and another with stocks and bonds. During a market downturn, that first basket, along with additional income from Social Security and any annuities you may hold, should be used to cover your expenses.
Market volatility can be daunting, but it doesn’t have to be financially crippling. With the right preparation, mindset, and professional guidance, you can weather this and future storms.
Sara McKinney
saractag@gmail.com
Sara is a recent graduate of Kalamazoo College and a new addition to the Cowen Team. Her responsibilities include IT support, event planning, and general administrative assistance.
