Most investors are desperately seeking guidance on what to do to weather the current market volatility. The first is simply don’t time the market. Yes, the market is down 20 percent. Better to sell now before it loses another 10 percent, right? However, we don’t truly know what direction it will move. Even if you were able to miss an additional drop, by the time you see the market has reversed direction, you may have missed the re-entry point and could be 10 percent behind in the recovery.
I recommend following a Ten Year Rule, keeping money you know you will need to access within the next 10 years in fixed-income investments held to maturity. Money that is invested for the long term should be in growth investments. This does not mean the performance of the investments; it means the type of investment—stocks, mutual funds, and exchange-traded funds—that intend to grow the principal investment.
Creating a plan, following the Ten Year Rule, and making only tactical allocation decisions throughout the years can help you remove the emotion from buy and sell decisions. Tactical decisions can allow you to favor sectors depending on the economic cycle, control capital gains taxes by tax-loss selling, and rebalancing to avoid the risk of being overweight in a particular sector. These are not emotional decisions. These moves have a purpose that isn’t necessarily influenced by the direction of the market.
In this inflationary market, I also recommend investors look at their debt, especially any adjustable-rate debt. With interest rates increasing, it is going to become more expensive to service that debt; therefore, a smart move is to minimize your debt if you have extra cash on the sidelines. There are still some investors that should look to refinance their mortgages. Don’t have the attitude that if you cannot get the lowest rate, refinancing is not worth it. Maybe you were unable to refinance when rates were near 3%, but if current rates are lower than what you’re paying, refinancing will save you money.
Finally, don’t stop investing. If you are investing for the long term, continue to dollar-cost average into the market. By buying high quality stocks now, you are getting them at a discount from where they were selling six months ago. If you are investing in a 401(k), consider increasing your contributions. While it can be scary to invest as the market continues to drop, you want to continue to invest in a diversified portfolio across multiple sectors. Diversification can lessen the downturns, while continuing to buy when the market is low can result in buying more shares that will benefit you when the market is high again.
Finally, if you need to fill liquidity buckets, you can likely wait out the downturn if you are following the Ten Year Rule. Locking in a 3 percent return with a 10-year Treasury might be better than we’ve seen in a long time; however, it is not worth selling an investment that is down 20 percent today. Over the long term, markets tend to go higher; therefore, this downturn will likely recover.
Understanding your behavioral reaction, taking the emotion out of the decisions, and focusing on the fundamentals of the investments should help keep you focused on the long-term results and help you weather the volatility that is inherent in the market.