The market environment of the past year has provided
perhaps the biggest gut-check for investors in a
generation. Despite recovering from its March 2009
low, which represented the biggest decrease in value
of the S&P 500 Index from its 2007 high since the
Great Depression, the Index is still down about 43
percent from the 2007 high as of March 9, 2009.
*
In today's media-saturated culture, it's easy to be
distracted by the daily ups and downs of the markets
and the accompanying headlines and pundit commentary.
But investors looking to create a nest egg for their
later years should always keep this important point in
mind: Retirement investing is a long-term goal that
requires a long-term perspective.
"Your investment horizon should match your
time horizon and investment goals, "explains
Terrance Odean, the Willis H. Booth Professor of
Banking and Finance at the Haas School of Business at
the University of California, Berkeley." For most
retirement savers, this equates to a buy-and-hold
approach to investing, with occasional rebalancing
because of changes in circumstances."
Most of us need our investments to support us for
the rest of our lives, which could be 40 to 50 years
or longer. Therefore, consider these five steps to
weathering short-term volatility and keeping your eyes
focused on the long-term horizon:
1) Keep Your Emotions in Check
It's hard not to be emotional when the stock market
drops hundreds of points in a single day for several
days (or even weeks) in a row. But fear and worry
won't help you ride out the storm.
Balance your emotions by "turning down the
financial noise," says David Geller, CEO of GV
Financial Advisors, a wealth management firm in
Atlanta, Ga. "Be careful about listening to the
financial media. Their reports can stir up negative
emotions and that's not helpful for long-term
investors."
In his book Your Money and Your Brain, Wall
Street Journal columnist Jason Zweig discusses
new findings emerging from the study of neuroeconomics--a
hybrid of neuroscience, economics and psychology. He
asserts that, as humans, we need structure to help
calm us during periods of high volatility and anxiety.
This research is helping us understand what drives
investor behavior, not only on the theoretical or
practical level, but also as a basic biological
function, explains Zweig.
"We have a strong tendency to extrapolate the
recent past onto the future," Odean says.
"In 1999, for example, many people thought the
stock market would go up by double digits every year;
today, many are sure disaster is right around the
corner. The truth is, nobody knows for sure, and those
who are routinely swayed by their emotions wind up
worse off in the markets."
While there's no guarantee of what the future may
bring, history speaks to the disadvantage of reacting
emotionally and selling during times of short-term
market volatility. Since 1928, the stock market has
experienced 57 positive years of performance, which
far outweighs the number of negative years (24).1
2) Continue to Invest
One way to create structure is by committing to a
regular automatic investing program (see "Put
Your Investing on Autopilot" below). The best
time to invest money in the stock market may be when
the market is falling. That's because share prices are
lower in a down market than they were when the market
was performing better, meaning shares of quality
companies are often reduced and values may exist for
investors.
"You make money in the stock market by buying
shares at good prices, and by almost any historical
measure, stocks are inexpensive right now,"says
Geller. While there's no guarantee that prices won't
go lower, the stock market is essentially "on
sale" for long-term investors.
3) Stay Diversified
No one can control the factors that cause market
fluctuations, but there is one personal factor that
every investor can control: the allocation of assets
in his or her portfolio. Within equities, fixed-income
securities and cash equivalents, a portfolio should be
further diversified among the different categories of
stocks, bonds and mutual funds.
4) Avoid Trying to Time the Market
"Hindsight is 20-20." It's often easy to
look back and say, "I should have sold out of the
stock market before it started going down." But
no one can predict when the market will reach--or has
reached--a bottom or a peak. If there's one lesson
recently, it's that it's impossible to know what will
happen in the future.
"Very few of us have a functional crystal
ball," says Odean."Research indicates that
most people tend to put money into the market after it
goes up and then take money out after it goes down.
There's strong evidence that individuals who try to
time the market do worse on average than those who
take a buy-and-hold approach."(See "Stay in
the Game" above.)
Successfully timing the market requires
near-perfect execution."You have to know not only
when to get out of the market, but also when to get
back in--you basically have to guess correctly
twice,"says Geller.
5) Review Your Long-term Investment Strategy
Just because a strategy is "long term"
doesn't mean it should never be adjusted. Drastic
changes in the financial markets may dictate a review
of your investment strategy to determine if it should
be rebalanced in light of these developments.
Most financial experts recommend a portfolio review
on at least an annual basis, and perhaps more often
during times of high volatility. You should also take
a fresh look at your strategy if your personal
circumstances have changed recently--for example,
you've gotten married or divorced, had a child or lost
a job.
Geller believes now may be an especially good time
for an investment reality check."Determine how
much volatility you can really handle. Has the past
year taken a toll on you emotionally? If so, maybe you
need to sacrifice a little bit of return for a little
less volatility."
Ride Out the Storm
Enduring the kind of volatility we've experienced
recently is tough, even on seasoned investment
professionals. Following these five guidelines can
help you keep your long-term investing plan intact.
