Is the Bull market over? Are rising interest rates going to hurt bonds? Will inflation continue to rise? Why is the market so volatile? Many people are worrying. Maybe you are one of them and ask the same questions.
I have some unsettling news, no one knows the answers. Timing markets (reacting to short-term developments) does not work. It has never worked and probably never will.
Even though market timing doesn’t work, this is what everyone talks about. What should I buy now? Should I move to cash? Get out of bonds?
Those are all the wrong questions. Why? Because the direction of various markets is unknowable.
More importantly, you don’t need the answers to these questions to invest successfully. So, what should you do? Understand that making money in stocks is a slow process that unfolds over the long term, not the short term.
Why do stocks go up? They go up primarily because good companies make profits year after year, in virtually every industry. These companies grow, hire more employees, and then make more profits. This has been going on for years, decades, even centuries. History is clear. Stocks go up. In between they are volatile, and this is where the pain lies, and the trouble could begin.
There are many reasons for the volatility: day traders, economic outlooks, politics, wars, inflation, etc. On top of that, you get those who predict the next doom and gloom scenario so often that they eventually predict something that actually happens! (Recall that a stopped watch has the correct time twice a day). Remember, no one knows where markets are headed. And in today’s investment environment, you can invest around the globe. There are markets in the U.S., Europe, China, Japan, Brazil, and developing countries, just to name a sampling.
Our philosophy is to own a diversified portfolio for the long run. We develop a model portfolio, with assets of many types, spread across various investments. Stocks should represent a percentage of a portfolio depending on risk tolerance, goals, and ability to (emotionally) handle volatility.
Remember stocks go up about seven years in ten. That means three out of ten they go down or are flat. When they go down it hurts, you will feel the need to fix things, but you can’t. If you try, often you will do exactly the wrong thing.
What should you do when stocks go down? If you don’t need the money for a while, buy more stocks. Why? Because they will go back up. We know this to be true. Yes, some companies will go out of business so you must always own many stocks, to reduce your risk. If you own one stock, you could lose all your money. What are the chances of 500 of America’s large companies all going out of business at the same time? You should own many types of companies: large, small, growth, value, international, and emerging economies. The stocks should be in different sectors of the economy, both domestically and worldwide: industrial, healthcare, science, consumer cyclicals, etc.
The balance of your money should be in cash, bonds, and real estate. These will all generally perform differently. This is good. Why? You don’t want them all going down at the same time; that would be a disaster. We want to avoid that.
This is a good philosophy that needs to be implemented through a sound strategy. What are you going to buy? In what percentages? How often should you rebalance? Strategy is important. Having the emotional fortitude to execute the strategy, can be the hard part. Not so difficult when markets go up, but when the Bear Markets appear, it can be very tough.
The key is to stick to your philosophy and strategy, and have the discipline to rebalance. This means you are buying what is going down. This can be hard when the media is telling you the world is going to “hell in a handbasket.” You need to tune out the market timing, the loud noise, and stick to your plan.
Are you doing these things? If not, you should be.
It is important to be familiar with the behavioral finance questions that inform investing. There are researchers at several major university programs trying to understand why people do the wrong things, at the wrong time. Why do people consistently take mental short-cuts that turn out to be completely misleading?
We are wired to avoid danger. This internal wiring causes many people to be poor investors. They do the wrong thing at the wrong time.
Believing that you can figure out when to get in and out of stocks, bonds and cash is a mirage. Don’t believe me? Read THIS article by a person that built his life around market timing.
In our business, I believe we add the most value by helping clients avoid big mistakes that are caused by the fear that they are losing control of their financial security. We are here to prevent clients from going to a 100% cash portfolio when the markets drop or buying the wrong investment at the wrong time. These things feel right, at the time, based upon fear associated with losing it all. Preventing people from doing the wrong thing takes patience and a very strong relationship. We remind clients early in our relationship that Bear Markets are not ifs, they are when’s. Ask yourself whether you can avoid emotional reactions on your own.
If you are confident in your own ability to remain calm in the face of adverse market conditions you may be one of the rare individuals who can manage money for themselves. However, if you feel the need to tinker with your investments every time you turn on the news, you need to find an investment advisor you can trust. We recommend a fee-only advisor. Someone that can help walk you off the ledge when you are about to make a big mistake. These people can make a difference in your life. If you already have a good relationship with an advisor, be thankful.
Create a plan and stick to it. Have the discipline to believe that patience is the key to successful investing. Bear markets recover, at least they have in the US over the last 100 years. Finally, tune out the constant noise of investment speculation and be thankful that you are living in a country with the strongest economy in the world.