As a young investor, your investing timeline should be measured in decades. By the time you want to withdraw your investing dollars, any present-day turbulence will be far behind you. If anything, a down market should excite you. Each dollar you invest goes further, allowing you to purchase more shares.
It’s easy to make plans when the sun is shining. But a good plan includes the forethought to ask: “What if it rains?” Your financial plan is similar. We hope for good times ahead, but you should also know how to respond if your investments drop in value. Let’s walk through a few responses to turbulent markets, each based on your stage in life.
Market prices reflect a combination of economic cycles and investor psychology. As the economy expands and shrinks, investors tend to get euphoric during the good times and despondent during the bad times.
It’s easy to see why investment markets fluctuate. The way up is fun – we’re making money! But it’s more important to plan how you’ll react on the way down. How should you react when that inevitably happens?
As a young investor, your investing timeline should be measured in decades. By the time you want to withdraw your investing dollars, any present-day turbulence will be far behind you. If anything, a down market should excite you. Each dollar you invest goes further, allowing you to purchase more shares.
For example: when was the best time to invest in stocks in the past 15 years? If you were watching headlines, you’d think it was recently. There’s been an amazing bull market and subsequent investor euphoria from 2012 until today. But that wasn’t the best time to invest. Instead, the best time was in 2009 – in the middle of a bear market, surrounded by negative headlines and despairing market sentiment. As a young investor, don’t let a down market bother you. In the long run, you’re likely to be fine.
Whereas a young investor has decades ahead of them, a soon-to-be retiree is in a different boat. They might need to withdraw retirement dollars before the market has time to recover. What’s this person to do?
Part of the solution starts now, before the markets decline. That solution is diversification. Your portfolio should contain different asset classes (stocks, bonds, alternatives, real estate, etc.) that perform in an uncorrelated manner. This is equivalent to putting your eggs in different baskets. The time to create a diversified portfolio is before markets decline. And when the decline comes (and it surely will), you can rebalance your assets – sell the hot winners, buy the cold losers. This ensures that, over time, you’re “buying low and selling high.”
What if investment diversification isn’t enough? What if all markets are down? First off, that’s a less likely scenario, but flexibility is key. Delaying retirement by a year or two can have significant long-term benefits, such as:
If you enjoy your work, extending your career is a phenomenal option to have.
If you’re already retired, your ability to respond to market declines is different.
First, the benefits of a diversified portfolio are still immense. And the best time to diversify is before something bad happens.
Second, a post-retirement market decline highlights the importance of a conservative financial plan. We know declines, corrections, crashes, and bear markets happen. We should plan for them to happen. That’s why a strong plan includes conservatism. A financial plan without any “cushion” is a poor financial plan. Again, this highlights the importance of financial planning before you pull the retirement trigger.
Worst case, you’re already retired, and your portfolio is stretched thin by a market decline. What to do? You need to create a short-term frugality plan to throttle your lifestyle down and spend less. Not forever, but long enough to allow the market (and your portfolio) to recover.
We know it’s going to rain someday. That’s why we keep an umbrella in the car and a raincoat on the rack. Market declines happen too. And we know more are coming. It pays to plan for them now.
A strong financial plan is your raincoat. The forethought of how to react to declining markets – that’s your umbrella. The storm should eventually pass. It always has. And you’ll likely come out dry on the other side. You might even be singing in the rain in the meantime.
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