Here we are, again, in the midst of market turbulence…
As a reminder, the average annual peak-to-trough decline in the S&P 500 is nearly 15%. This means that every year the market drops at some point (from a high point to a low point within the year) by an average of 15% – some years the annual decline is single digits, some years it’s very close to 15%, and some years it continues downward and becomes a bear market (over 20% decline averaging 33%).
And, we also know that, even though these declines occur on a regular basis, the average annual return is something like 9 or 10%.
So, what we have experienced (are experiencing?) is nothing other than VERY NORMAL market turbulence.
No one can predict the future consistently. But, when markets become chaotic, the natural human reaction is to worry. Fear and uncertainty can cloud our judgment, leading us to impulsive decisions that hurt us in the long run.
Our media consumption habits generally reinforce this our inclination towards impractical behaviors.
A more mindful approach can introduce peace and clarity to our investing lives and guide us through the ups and downs of normal market volatility. Here’s how you can approach volatility in markets with a clear mind and keep a steady hand on the wheel of your portfolio.
Focus on what you need to Know and what you need to Do.
Stuff to Know
- Understand Market Volatility
Market volatility isn’t something to be feared, it’s a natural part of the investment landscape. It’s driven by a complex mix of factors – economic shifts, political events, and human psychology. When you understand that these fluctuations are normal, you can start to see them as opportunities rather than threats. Recognize that volatility doesn’t change the fundamental value of a well-chosen investment, it simply reflects short-term uncertainty.
It helps to remember that a share of stock is a share of ownership in a business… and everything about the business is focused on protecting owner’s capital (our capital) and growing the profitability of the business. The structure is reliable. - Your Plan Matters More Than the Market
The market will do what it does – rise, fall, and fluctuate. Not our circus, not our monkeys. What matters is your plan. A well-thought-out investment strategy that aligns with your financial goals and risk tolerance should guide your decisions, not the daily noise of market movements.
When you don’t know what’s going on in markets (which is, let’s face it, always), you can look to your plan for guidance. If your goals haven’t changed, then your plan shouldn’t change. If your plan hasn’t changed, then your portfolio shouldn’t change (other than some minor occasional rebalancing). - Emotional Investing Is Your Enemy
Our brains are wired to respond to danger, and a volatile market can trigger a fear response. However, acting on these impulses often leads to poor investment decisions. Selling in a panic during a downturn locks in losses, while jumping into a surging market out of fear of missing out can lead to buying high and selling low.
In the heat of the moment, emotions can (and often do) lead you astray. Fear pushes you to sell when you should hold, and greed entices you to buy at the wrong time. Mindfulness helps you recognize these emotions without being controlled by them. When you notice fear or greed creeping in, take a moment to pause, breathe, and refocus on your long-term goals. - Time Is Your Ally
In the short term, market fluctuations can seem random and nerve-wracking. However, over the long term, markets rise – the chart moves upward and to the left. Historical data shows that staying invested over a prolonged period generally leads to growth, despite the inevitable downturns. Patience is a key virtue in investing. Patience works because of the wonder of compounding.
Compounding is the quiet force that works in your favor, turning average, consistent gains into significant wealth over time. In volatile markets, the short-term noise can distract you from this powerful process. But by staying invested and allowing your returns to compound, you can grow your wealth steadily, even in the face of market turbulence. You can trust that time, combined with disciplined investing, will yield positive results.
Stuff to Do
- Keep Cash on Hand
Cash provides a cushion during volatile times, giving you the flexibility to seize opportunities or cover unexpected expenses without having to sell investments at a loss. Having a cash reserve is like keeping a lifeboat ready –you may not need it, but it’s there for peace of mind. This liquidity allows you to remain calm and make thoughtful decisions, rather than reacting out of necessity.
For more information on this, check out Emergency Fund Basics. - Diversify Your Portfolio
Diversification is your best friend in volatile markets. Paraphrasing Nick Murray (my favorite coach on the matter), “Diversification is a deal you make with heaven. You agree to never make a killing in exchange for the priceless blessing of never getting killed.”
By spreading your investments across different company sizes, maturities, industries, and geographic regions, you reduce the impact of any single market event on your overall portfolio. Think of diversification as planting a variety of crops – if one fails, others will thrive, ensuring a steady harvest. Aim to include a broad mix of the great businesses of the US and the World to balance your risk. You can also add bonds to reduce overall short-term volatility, but be careful on this step because this will also reduce long-term portfolio return.
For more on this, check out Simple, Basic, Mindful Investing. - Use Dollar-Cost Averaging
Dollar-cost averaging is a mindful approach to investing, where you commit to investing a fixed amount at regular intervals, regardless of market conditions. This strategy helps you avoid the pitfalls of market timing and reduces the impact of volatility by spreading out your investments over time. It’s like sailing steadily through choppy waters – by staying the course, you ensure that you’re always moving forward.
For more on Dollar-Cost Averaging, check out Investopedia. - Review & Rebalance in the Short-Term, But Maintain Long-Term Perspective
Volatile markets can throw your portfolio off-balance, much like strong winds can shift a ship off course. Regularly reviewing and rebalancing your investments ensures that your portfolio remains aligned with your risk tolerance and financial goals. This process involves selling assets that have grown disproportionately and buying those that have lagged, maintaining your desired asset allocation. It’s a disciplined approach that keeps you on track, even when the market is unpredictable.
I often liken your asset allocation in investing to your breath in meditation. You regularly return your portfolio to its original intended asset allocation (read: risk vs. return profile) in the same way you regularly return your attention to your breath during meditation.
In the face of market volatility, it’s easy to get caught up in the day-to-day fluctuations. But investing is a marathon. Keep your eyes on the horizon – your long-term financial goals – and avoid making decisions based on short-term market movements. By maintaining a long-term perspective, you allow your investments the time they need to grow and compound, leading to greater wealth over time.
For more on this topic, check out Investing Should be Boring.
Investing in volatile markets doesn’t have to be a source of stress. Volatility is a normal part of every investing journey. By approaching the market with mindfulness – understanding its natural rhythms, managing your emotions, and sticking to a disciplined plan – you can begin to navigate the ups and downs with confidence.
