Remember the Basics in a Turbulent Market
Four don'ts
- Don't panic - Selling after the market tumbles is the worst thing. Try to stay calm. Remember, bear markets are a natural part of the investing cycle. Focus on the long term.
- Don't try to time the market - No one can tell when a peak or ebb will occur. Timing the market successfully means you have to guess right twice - at the high and the low. Because the market has tended to rise over the long term, any time you are out of it you risk missing out on a market rise.
- Don't fixate on the market's day-to-day movements - Watching the market rise and fall seems to have become a national pastime. There's more to life than that. And it can be bad for your health - your financial health! Watching the market constantly is like weighing yourself every day when you're trying to lose weight. Instead of continuously monitoring your investments, examine your portfolio's return every three or six months. And consider reviewing your assets once a year, to stay true to your risk tolerance and investment goals.
- Don't allow your portfolio to become overly concentrated - You may be drawn to a hot stock, sector or fund, but remember the value of a diversified investment approach. Use an asset allocation plan and stick to it.
Five do's
Instead of getting caught up in the high-anxiety world of daytraders, where market movements become exaggerated, get back to these tried and true investment basics:
- Buy and hold - Only buy shares or invest in share funds for goals that are five years away or longer. If you buy individual shares, holding them longer may lower your capital gains tax and trading costs.
- Use asset allocation - Consider your investment goals, risk tolerance and time frame. The longer the time and the greater your risk tolerance, the more aggressive you can be. And remember the value of diversifying across asset classes (bonds, cash and shares), industries, sectors, styles (value vs. growth), size of companies (small/medium/large), and geography (Australian versus foreign shares).
- Dollar cost average - Another form of risk management that is particularly helpful during a market decline is dollar cost averaging. Investing a steady amount every month will allow you to buy more shares when the price falls and fewer when the price rises. For example, $1,000 will buy 50 shares when the price of a stock is $20, and 100 shares at a price of $10 a share. You may come to appreciate market corrections, or even bear markets, as buying opportunities. The key is to have a long-term horizon and lots of patience.
- Review your portfolio - Calmly, thoughtfully review your financial needs. If you know you will need your money in less than a year or two, it might make sense to sell your investment. If you face capital gains tax elsewhere, selling a losing stock in which you have lost confidence may reduce your tax obligation.
- Be patient - There is no rule about how long a bear market will last. Investors' patience may not have been tested when the S&P 500 Index dropped 20 percent from June to October 1990. But imagine enduring the great bear market of 1973-74 when the S&P 500 Index fell 48 percent and the Nasdaq dropped 60 percent in 22 months. Week after week, month after month, there was no relief. Patient investors were rewarded when their investments once again began to climb; just as the cyclical nature of the financial markets mean that downturns are likely, those cycles also are bound to head upward again.
Finally, remember that risk and reward go together and investments follow cycles.