Market volatility is back. Just as you started to hope that stock values only ever move in one direction (up), the pendulum swung the other way. Your probable response: anxiety. Acting on that emotion, though, can do you and your portfolio more harm than good.
The Standard & Poor’s 500 Index (currently at about 2,107) hit a then-record high on Sept. 19, dropped nearly 8% the next month, rebounded and soon after – in just a few hours of trading – fell 15 points before rising 23 points. What fun when your retirement money depends on investments.
In calm market times, the S&P’s volatility index (VIX), which measures price fluctuation and signals investors’ uncertainty, hangs around 10. In Wall Street nosedives, it’s shot to around 25. Now it stands at about 12.
A number of tidy-sounding theories try to explain markets’ increasingly frequent and severe ups and downs: fears of growth overseas, uncertainty in Washington’s policies, geopolitical risk worldwide and, last summer, even Ebola.
In many cases, these issues are not new. Turmoil has roiled the market for some time. The Federal Reserve last year chose to exit from quantitative easing (the central bank’s unconventional, controversial monetary policy to stimulate the domestic economy via easier lending). Some feared that would harm stocks; it didn’t. Meanwhile, much of Europe continues to struggle with long-term sluggish growth or recession, and there are always geopolitical tensions somewhere.
Recent increased volatility might simply reflect that volatility was very low for a long time. Markets do not move in one direction. If volatility remained low forever, you’d probably have more reason to worry.
Here are six simple truths to help you live with volatility:
1. Don’t presume. Markets are unpredictable and do not always react the way experts predict.
When central banks relaxed monetary policy and cut the federal funds’ interest rate during the crisis of 2008-09, for example, many analysts warned of inflation. If anything, the reverse is the case; the central banks fret about deflation.
2. Someone is buying. Quit the market when prices fall? Do you also run from a sale? Discounting stock prices to reflect higher risk often translates into the likelihood that returns will go higher.
When headlines proclaim that investors are dumping stocks, remember that someone must snap up those unwanted equities. These buyers are often long-term investors.
3. Timing the market is hard. Recoveries can come just as quickly – and violently – as the prior correction.
For instance, in March 2009, when market sentiment was at its worst, the S&P 500 turned around and ran off seven consecutive months of gains. This reminds us of the dangers of turning paper losses into real ones and paying for risk without waiting for recovery.
4. Never forget diversification’s power. The S&P 500, the Russell 2000 Index, the MSCI World ex-USA Index: All flip-flopped in terms of good returns in recent years. Spread risk and rebalance your portfolio at least yearly to lessen the bumps in the road.
5. Nothing lasts forever. Just as loading up on risky assets when prices are high can expose you to losses in a correction, dumping risk altogether when prices are low means you can miss any eventual profitable turn in the market. Moderation makes good policy.
6. Discipline is rewarded. Volatility worries you, no doubt. But through discipline, diversification and understanding how markets work, you can make the ride bearable. At some point, value re-emerges, risk appetites reawaken and, for those who acknowledged emotions without acting, relief replaces anxiety.
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Dan Crimmins is the co-founder of Crimmins Wealth Management LLC in Woodcliff Lake, N.J. His blog is Roots of Wealth.
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