Here is some guidance for turbulent markets
Todd Osborn, Special to the Gazette
Thursday, March 12, 2009
What began with a credit crisis in the United States has turned into a global recession and nearly all markets have been pummeled. There has been a general concern about jobs and income so spending has been given additional scrutiny. This in turn has led to additional strains on the economy. The market reacts to round after round of disappointing news, and suddenly the shrinking value of our life savings has turned into a critical issue.
Here are some key points we have been focusing on:
Diversification
One term often bandied about in the financial planning world is asset allocation. Technically, asset allocation means having portions of your investments in different asset classes (e.g., cash equivalents, stocks, bonds, real estate and tangibles) in order to reduce risk. The general concept being that when one portion of a portfolio suffers, then another can provide stability.
Asset diversity is no guarantee against suffering losses, but it does reduce risk. Even with appropriate asset allocation, some parts of a portfolio may struggle at any given time, the goal being to have less downside risk than one would with total exposure to the market.
In essence, asset allocation means not having all of your eggs in one basket. What was yesterday’s “safe” and AAA investment may be tomorrow’s problem. We have no crystal ball to tell us where to be positioned so regardless of whether you are in the accumulation phase of investing or in the retirement income phase, diversification of your investments should be a key part of your strategy.
Play defense
A common investment strategy used during recessions is investing in defensive sectors of the market such as food, consumer staples or utilities. I particularly favor pursuing high dividend yields from quality utility stocks. They are not immune from the overall market movements, but their dividends may potentially help cushion the impact of price swings.
According to Standard and Poor’s, dividend income has represented roughly one-third of the monthly total return on the S&P 500 since 1926, ranging from a high of 53 percent during the 1940s to a low of 14 percent during the 1990s when investors were more focused on growth.
Investing in the energy or utilities sector involves special risks, including the potential adverse effects of state and federal regulation and may not be suitable for all investors.
Preferred stocks combine certain advantages of both bonds and stocks. Dividends are not guaranteed and must be authorized by the company’s board of directors, although many preferred stocks are ‘cumulative.’ Like most fixed income investments, preferred stocks are interest-rate sensitive and market conditions will affect their price.
Continue to save
Everyone has heard the old investment adage: The ultimate goal is to buy low, and sell high. What we are experiencing right now is what it feels like to buy low. It is a very uncomfortable feeling, which is why so few investors are able to follow this discipline. Dramatic headlines create worry, but dramatic headlines also indicate buying opportunities.
For those still in the accumulation phase of investing, a down market offers opportunities to buy shares at prices we haven’t seen for some time. Rather than trying to time the market we should opt to continue our systematic purchases, especially in our retirement accounts.
Don’t panic
Bear markets are often the inverse of bull markets, seemingly endless down days with new record setting lows. It is human nature for people to become discouraged and have the urge to cash everything in order to prevent further losses. This might be all right for someone who is risk adverse and with a limited time horizon, but for those still accumulating for retirement this could be a mistake.
One of the important lessons learned from studying the impact of recessions on the markets is the most significant gains tend to arise after the deepest declines. In order to take advantage of these recovery swings, investors have to be positioned in the markets and not on the sidelines. If one were to cash out now, they would certainly be locking in their losses and missing out on any potential recovery.
Should you need to adjust your portfolio during a period of turmoil, it would be a good idea to implement those changes in gradual steps. Because the markets are always uncertain, taking gradual steps is a good way to spread risk out over time.
Take advice from a pro
Investing is one of the most difficult activities we undertake. Do seek out the advice of a qualified financial advisor for coaching through the ups and downs of the emotional investment roller coaster and try to remain focused on your long-term goals.
Shelby Davis, a renowned investor, put it best: “You make most of your money in a bear market. You just don’t realize it at the time.”
Any opinions are those of Todd Osborn and not necessarily those of RJFS or Raymond James. Expressions of opinion are as of this date and are subject to change without notice. You should discuss any tax or legal matters with the appropriate professional.