Less than a month into the New Year and investors’ heads are already spinning. The still tenuous Chinese economy and continually falling oil prices sent markets plunging the first few days of the year. And while the Dow Jones Industrial Average and S&P 500 have both since recovered some of their early losses, many investors are wondering how long into 2016 this roller coaster ride will continue and whether they need to get off at the next stop.
But just as markets recovered after the last correction – a 10 percent drop in late summer 2015 — this too shall pass. Investors who keep that adage in mind rather than make abrupt changes to their portfolios based on today’s headlines should fare the best in the end.
Volatility may be difficult to stomach, but it’s hardly unprecedented. Markets typically experience a 10 percent to 20 percent correction roughly every one to two years. Indeed, over the course of history, the financial markets have experienced many “corrections” (declines in stock prices of at least 10 percent from their recent highs), and after every single one, eventually recovered all the lost ground and then moved to new heights.
How investors react during these periods of decline is critical to their long-term success.
Last fall, RBC Wealth Management conducted a poll and asked Americans how they responded to the late summer 2015 market correction. The vast majority of Americans (71 percent) with investable assets didn’t panic and instead opted to maintain their positions during the recent bout of volatility. In fact, only 4 percent sold and got out of the market entirely.
American investors should exercise similar discretion today. Despite what is happening elsewhere in the world, the U.S. economy is still reasonably solid. Employers are adding jobs at a pretty good pace, wages are rising and home prices are up. Furthermore, consumer debt is at manageable levels and interest rates, even factoring in a small bump, are still at near historic lows.
On the other hand, corporate earnings – a key driver of stock prices – are mixed. Some sectors are being negatively impacted by low oil prices causing a divergence between these groups and greater success in the broader market. Nonetheless, we’re in a lot better shape than we were heading into 2008 and early 2009 – a period in which the financial markets fell into a deep hole.
Still, remaining calm during a correction doesn’t mean investors should simply sit on the sidelines.
In a downturn, just about everybody takes a hit, but if you were particularly affected, you might be over-concentrated in just a few types of stocks. If that’s the case, you may want to take this opportunity to consider whether you need to further diversify your holdings. You can help reduce the impact of volatility on your portfolio by owning a mix of domestic and international stocks, bonds, government securities, certificates of deposit (CDs) and possibly even “alternative” investment vehicles, including real estate and commodities, such as precious metals.
Another thing to keep in mind is that a market correction, by definition, means that prices have dropped for most stocks, including the ones that represent strong companies with favorable prospects. When prices are down, for many investors, that might signal a good time to buy. Younger investors with longer investment horizons are the most likely to benefit from purchasing additional investments when prices are low. In fact, according to RBC Wealth Management’s fall 2015 survey, 21 percent of younger Americans used the summer 2015 correction as an opportunity to purchase more investments.
Bottom line, don’t jeapordize your long-term investment strategy out of fear that a few bad weeks or months in the market will persist. If you’ve created a strategy that reflects your risk tolerance, time horizon and financial goals, and if you make needed adjustments over time, you’ll give yourself the ability to look past today’s headlines.
The information included in this article is not intended to be used as the primary basis for making investment decisions. RBC Wealth Management does not endorse this organization or publication. Consult your investment professional for additional information and guidance.