Don’t panic in reaction to stock market swings
The stock market’s sudden downturn over the last month has left shellshocked investors asking a disturbingly familiar question: What should I do now?
Coming less than three years after stinging losses in the 2008 global financial crisis, the latest woes have left millions of small investors feeling more confused than ever about how to save for long-term goals such as retirement.
A series of white-knuckle drops — including a 419-point dive Thursday — have pushed the Dow Jones industrial average down 15.6% from its late April peak, with many professionals bracing for further losses. The decline is less than the 20% that’s generally considered to be a bear market, although riskier areas such as small-company stocks already have crossed that mark.
The wild gyrations have been sheer agony for small investors such as Eddie Shades.
His 401(k) account was eviscerated in the 2008 bear market, and the 30-year-old network engineer had only started to regain his confidence in stocks when the current downturn struck.
“It was very depressing,” Shades said. “I didn’t take it well. I wanted to pull out a little and put it in savings.”
The volatility has triggered frantic calls and visits to the offices of financial advisors from small investors who are desperate for guidance.
“It is much like an emergency room in our offices during these periods of high volatility,” said Casey Mervine, a financial planner in Torrance with Charles Schwab Corp.
Brokerage firms and mutual-fund companies have posted a variety of financial advice on their websites with titles such as “Don’t Let Fear Disrupt Your Investing.”
Indeed, the best advice for most investors is to coolly assess your portfolio and financial goals — and, above all else, avoid knee-jerk responses that you might regret later.
“Our key message is, ‘Panic is not a strategy,’” said Chris McDermott, an expert in financial planning at Fidelity Investments.
People should make sure they have well-thought-out investment plans based on factors such as age, income level and future financial needs. And those who don’t have regularly updated investment plans should use the market upheaval as an opportunity to create one.
“We’re telling people to take a step back and look at your overall plan,” said Maria Bruno, an investment analyst at mutual-fund giant Vanguard Group. “For some investors, if their overall financial plan is appropriate, then doing nothing can be the best thing.”
In general, experts say, investors should follow a few simple rules.
First, before you invest make sure you have at least six to 12 months’ worth of living expenses set aside in an emergency fund in case of a job loss.
The conventional wisdom used to be three to six months, but many advisors have extended that given the difficulty of finding a job in today’s economy.
Next, ask yourself how much risk you’re really willing to take.
Many investors hadn’t even recouped their bruising losses from 2008 when the market’s current sell-off hit.
That’s caused some people, especially older investors, to reassess their risk tolerance.
Some investors are “much more averse to risk than they thought they were, especially after what happened three years ago,” said Michael Eisenberg of Eisenberg Financial Advisors in West Los Angeles.
For many Americans, their primary exposure to stocks and bonds is through 401(k)s or similar retirement plans.
Make sure 401(k) assets are well-diversified — meaning spread across a range of stock and bond funds so that a sharp decline in one area wouldn’t torpedo an entire portfolio.
Less sophisticated investors should consider so-called target-date mutual funds, which invest in a variety of stock and bond funds based on an investor’s age and expected year of retirement.
As an investor gets older, the target fund automatically shifts from riskier stocks to more conservative fixed-income holdings.
Vanguard offers a guide to picking an appropriate target-date fund at https://personal.vanguard.com/us/funds/vanguard/TargetRetirementList.
The brutal drops in the market have prompted scores of small investors to give up on stocks in recent years.
Investors withdrew a net $23.5 billion from U.S. stock mutual funds in the week ended Aug. 10, the biggest weekly outflow since October 2008, shortly after the bankruptcy of Lehman Bros. Holdings Inc. They’ve pulled a net $400 billion since 2006.
But that can backfire.
The investment returns of average Americans badly trailed the overall stock market over the past two decades because they panicked out at market lows and missed subsequent rebounds, according to financial research firm Dalbar Inc.
Small investors notched a 2.3% average annual return between 1990 and 2009, compared with 8.2% for the Standard & Poor’s 500-stock index. Individual investors even trailed the hollowed-out housing market, which advanced an average of 3.2% a year.
Even many people in 401(k) plans — generally, the most conservative investors who feed money into the market through routine payroll deductions — have dumped stocks during the recent tumult.
For example, the trading level of 401(k) holders was almost eight times normal on Aug. 8, when the Dow skidded 634 points — with all the money pouring from stocks to bonds, according to Aon Hewitt.
But financial advisors say people need to keep a sizable chunk of their money in stocks to have any chance of paying for retirement. History has shown that stocks often rebound quickly and strongly from bear markets.
For example, after falling 54% during the global financial crisis, the Dow nearly doubled over the next two years. A lot of small investors missed that rally because they had bailed out of stocks.
For an average 45-year-old who can tolerate a reasonable amount of risk, Fidelity Investments recommends a portfolio with 70% in stocks, 25% in bonds and 5% in cash or other similar short-term instruments.
Even a 65-year-old who is about to retire should have 40% to 60% of his or her investment portfolio in stocks, according to Vanguard.
If the market suffers another big daily plunge, Lane Jones, chief investment officer at investment-advisory firm Evensky & Katz in Coral Gables, Fla., said he likely will start increasing his clients’ stock holdings. He normally telephones clients before making the change.
“Those calls are the most painful to make,” Jones said. “They’re expecting to hear, ‘We’re out of stocks,’ and we’re saying, ‘No, actually, we’re going in and buying.’”
Jones and other advisors suggest that investors consider buying mutual funds specializing in high-quality multinational companies with sizable operations in countries that have stronger economic growth than the United States. Many of these companies pay dividends, which can provide a cushion against falling share prices.
He favors Vanguard Dividend Appreciation, which is available as a regular mutual fund (ticker symbol: VDAIX) and as an exchange-traded fund (ticker: VIG).