What are some of the best strategies for volatile markets?
The truth is nobody likes to lose money. Especially money that is earmarked for retirement, vacation, real estate purchase or college education. Today’s volatile markets can be treacherous for inexperienced (and even experienced) investors. Successful investors must remain focused on the strength of their portfolio and the potential for future growth.
The stock market can be volatile.
The first instinct when the market drops is to sell your investments. Well, in reality, this may not always be the right move. Selling your stocks during market selloff may limit your losses, may lock in your gains but also may lead to missed long-term opportunities. Emotional decisions do not bring a rational outcome.
How low can the market go? The largest ever percentage drop by S&P 500 index occurred on October 19, 1987 (known as The Black Monday) when S&P 500 dropped by -20.47%. The next biggest sell-off happened on October 15, 2008, when S&P 500 lost –9.03%. In both cases, the stock market continued to be volatile for several months before reaching a bottom. The bottom was the start of a new bull market. Both times, the stock market recovered to reach historic highs in a few years. In the past seven years, S&P 500 rose up by 14.8%, which is almost double the historical average of 7%.
So what can you do when the next market crash happens?
I want to share six strategies that can help you through the turbulence and support the long-term growth of your portfolio.
1. Keep calm and carry on
Significant drops in stock value can trigger panic—and fear-based selling to limit losses is the wrong move. Here’s why: frequently these market selloffs are followed by broad market rallies. As long as you are making sound investment choices, patience and the ability to tolerate paper losses will earn you more in the long run.
2. Be realistic: Don’t try to time the market
Many investors believe that they can time the market to buy low and sell high. In reality, very few investors succeed in these efforts.
According to a study by the CFA Institute Financial Analyst Journal, a buy-and-hold large-cap strategy would have outperformed, on average, about 80.7% of annual active timing strategies when the choice was between large-cap stocks, short-term T-bills and Treasury bonds.
3. Stay diversified
Diversification is essential for portfolio preservation and growth. Diversification, or spreading your investments among different asset categories (stocks, bonds, real estate, commodities, precious metals, etc.) minimizes risk.
Uncorrelated asset classes react uniquely during turbulent markets and economic cycles.
For example, fixed income securities and gold tend to rise during bear markets when stocks fall. Conversely, equities rise during economic expansion.
4. Focus on your long-term goals
Personal financial goals stretch over several years. For investors in their 20s and 30s financial goals can go beyond 30 – 40 years. Staying disciplined—maintaining a high credit score, minimizing debt and developing a savings plan–is the best way to achieve your goals.
Market crises come and go, but your goals will most likely remain the same. In fact, most goals have nothing to do with the market. Your investment portfolio is just one of the ways to achieve your goals.
5. Use tax loss harvesting
If you own taxable accounts, you can take advantage of tax loss harvesting opportunities. You can sell securities at depressed prices to offset other capital gains made in the same year. Also, you can carry up to $3,000 of capital losses to offset other income from salary and dividends. The remaining unused amount of capital loss can also be carried over for future years for up to the allowed annual limit.
To take advantage of this option you have to follow the wash sale rule. You cannot purchase the same security in the next 30 days. To stay invested in the market you can substitute the depressed stock with another stock which has a similar profile or buy an ETF.
6. Be opportunistic
Market swings create opportunities for purchasing securities at a discounted price.
Not surprisingly the renowned investor Warren Buffet famous words are “Buy when everyone else is selling” and “When it’s raining gold, reach for a bucket, not a thimble.”
Market selloffs rarely reflect the real long-term value of a company. Usually, selloffs are triggered by market news, political events and most recently by algorithmic errors. Market drops during volatile times are an excellent opportunity for investors to buy their favorite stocks at a lower price.
About the author: Stoyan Panayotov, CFA is a fee-only financial advisor based in Walnut Creek, CA. His firm Babylon Wealth Management offers fiduciary investment management and financial planning services to individuals and families.
Disclaimer: Past performance does not guarantee future performance. Nothing in this article should be construed as a solicitation or offer, or recommendation, to buy or sell any security. The content of this article is a sole opinion of the author and Babylon Wealth Management. The opinion and information provided are only valid at the time of the article. Investing in these asset classes may not be appropriate for your investment portfolio. If you decide to invest in any of the instruments discussed in the posting, you have to consider your risk tolerance, investment objectives, asset allocation and overall financial situation. Different investors have different financial circumstances, and not all recommendations apply to everybody. Seek advice from your investment advisor before proceeding with any investment decisions. Various sources may provide different figures due to variations in methodology and timing.