Instead of focusing on the wild swings of the stock market, this is a perfect time to look inward and understand your personal reaction to the headlines. And the stock market has certainly been making headlines in recent weeks.
Instead of the dreaded October bear market, there was a spectacular rally. But the real headlines are often posted between days, with the Dow Jones Industrial Average falling more than 500 points, then rallying to close in positive territory. Or vice versa.
As an investor, how does that make you feel when you hear the stock market report on your car radio or on the news?
Be honest with your reaction. Is a falling stock market giving you a sinking feeling in your stomach, causing concerns about your retirement lifestyle? Or do you just smile and wonder about the next traffic or weather report? Do you immediately check the individual share prices of your holdings? Do you think twice before buying that new car?
All of those reactions give you an idea of your own investing personality. And instead of being ruled by emotion or paralyzed by fear, you need a sensible plan. And you may even need a trusted financial professional to help you not only make that plan, but help you stick to it.
This advice is not for speculators. Or even for members of Cramer’s investment club on CNBC. By definition, they are timing both the market and individual stocks. For some it becomes an obsession, and for others it is a mental challenge. But if you’re reading this column in your local paper, I think you have a long-term perspective. Until you don’t!
So to keep you on a steady investing course, here are a few things to keep in mind:
Don’t confuse volatility with risk. Daily or intraday market changes can make food as scary as riding a roller coaster. In fact, you’ve probably heard of the VIX, an index that measures that volatility. Many use it as a warning sign or opportunity to understand market fluctuations. The trades really love the volatility, the opportunity to make fixed time bets and hopefully the profits.
But if you’re not a day trader, you can safely ignore volatility and instead worry about what happens to your money in the long run. The road to your retirement date may have twists and turns, but as long as you reach your retirement years with enough money to last you a lifetime, you don’t have to worry about beating the market in the short term.
Put the odds on your side
Morningstar’s market historians reviewed the performance of large company stocks (with dividends reinvested) over the past 100 years. In today’s terms, that would be equivalent to an S&P 500 stock index fund you probably have in your company retirement plan.
If you hold that portfolio for just one year, you have a 50/50 chance of making or losing money. After reviewing the performance of all 5-year periods over the past 100 years, they report that you would have about a 2:1 chance of making money compared to losing money.
But if you held that portfolio for 20 years—big company stocks with dividends reinvested—there was NO 20-year period where you lost money, even adjusted for historical average inflation of 3%.
In other words, the odds are significantly on your side if you can hold onto that portfolio for 20 years.
But what if you’re already retired and wondering if you’re in your 20s? Then, in a calm moment, adjust your exposure to the stock market. And keep a larger amount in short-term liquid investments (chicken money), which eventually offer an attractive return of around 4.5%
Panic and paralysis are an investor’s worst enemies
Truly successful investors make a long-term plan and adjust accordingly, according to their stage in life, changing financial needs, and changing economic prospects. The worst decisions are made based on emotion. Greed can lead you astray. But fear breeds panic and rash actions. Or it can create paralysis. Either way is a losing position.
Just before the end of the year is a perfect time to quietly consider your situation with your advisor. And it’s also a good time to reevaluate your advisor and how he’s motivated and compensated. And that is The Savage Truth.