When stock market uncertainty peaks, it’s important to stay confident in your financial plan. Second guesses tend to be costly.
The first part of successful, long term investing is mostly mathematical. Build a strong investment plan to withstand market downturns, which includes investing in a diverse portfolio of assets (stocks, bonds, commodities, real estate and more) that fits your time horizon and risk tolerance. Financial advisors are experts at this step, and they can help build a portfolio and recommended strategy that’s tailored to you, your risk tolerance and your long-term financial goals.
But at times, even the most well-constructed portfolio can experience the ups and downs of the market. And no one is an expert at timing exactly when the next downturn or subsequent bull run will begin. The second part of the plan is mental: you need to trust in the strategy you’ve developed and stay committed through the ups and downs. Whether it’s a viral outbreak, a military strike or a bursting tech bubble, there are going to be times when markets are overcome with fear and doubt. But remember, your investments are intended to help you reach your long-term goals, so hold fast and don’t panic.
Unfortunately, many investors can get rattled and abandon well thought out strategies when fear amplifies. The keys to building wealth are simple: Work with an advisor. Create a holistic, stress-tested plan. Stick to it.
It’s no secret that stocks are risky. Unpredictable swings in the value of stocks can be too much for some people to endure — not everyone can own them. And every day the market tests those who can own stocks and those who shouldn’t. Investors who sell their shares when the markets are down lock in losses for themselves and generate extra returns and opportunities for those who stick with the market. Data show that when fear spikes, those who stick to their guns tend to be rewarded.
Brent Schutte, Chief Investment Officer at Northwestern Mutual Wealth Management Company recently wrote about the CBOE Volatility Index, known as the VIX which is a real time market gauge that uses S&P 500 options to measure the market’s collective expectations for volatility in the coming 30 days. In his article, he says that when the VIX is low for example a 12, markets are thought to be “calm”. On the flip side, a VIX over 30 implies a jittery, fearful market. To put it in perspective, the median for the VIX is about 18, and 89.5 is the highest level ever reached on October 24, 2008 at the peak of the financial crisis.
A historical analysis of the VIX and stock returns over 7,285 trading days between January 1990 through February 13, 2020 showed that there have only been 258 trading days when the VIX hit 36.07, which is extremely fearful. If you had invested at the end of each of those days, Brent found that 246 of 258 times you would have generated a positive one-year return. Simply put, 95% of the time the VIX hit 36.07, Brent found the 12 month returns from that day went on to be positive, with a median and average return of 30 percent. Think about this as the cost of the panic. This information wasn’t recommending utilizing an investing scheme timed around the VIX. Rather the study demonstrated that panicked investors create opportunities for investors who trust their plan through calm and stormy weather.