3 Questions that Today's Investor Needs to Answer!
The chaos of the 2008 markets will certainly have a long-term effect when it comes to both economic and social issues stemming from this crisis. This will most likely take years to reconcile, and it appears that we will probably have many new issues to deal with in the months ahead. With that in mind, we need to go back to the basics of investing, which can help shape your financial decision-making going forward.
• What are your financial objectives?
Now is a good time for investors to sit down to rethink their entire financial situation. A helpful exercise is to consider both short-term goals (such as saving for a down payment on a home) and long-term goals (such as establishing an estate plan for your assets to go to your beneficiaries).
• How much time do you have?
For example, if you are retired, your answer may depend on your age, health, and family history. You may even be concerned that you won't live long enough to see the market bounce back. Long-term investing can still be your best alternative, especially if you're keeping your beneficiaries in mind.
Over the long run, large-cap stocks have outperformed other investments. Unfortunately, the first decade of 2000 has not been a good example of this, although there is still time left to determine whether that will hold true. Over any 15-year period, large-cap stocks have returned more than 7% annually 79% of the time. That performance still exceeds the return on long-term Treasuries (Source: Ibbotson Associates). Of course, past performance is not a guarantee of future results.
• What are you willing to risk to get there?
Measuring your tolerance for risk can be difficult, especially if you haven't experienced a prolonged market downturn. Unfortunately, managing your emotions during manias and panics can be even more difficult. It is human nature to be willing to take more risks in a bull market, but become risk-averse when markets turn sour. Don't let this natural tendency tempt you to deviate from your long-term plan! We believe that, if you bail out of stocks during their freefall and wait on the sidelines until the market recovers, you could miss many of the gains to be had when stocks start to move upward again.
In the last bear market, the S&P 500 index fell 29% from March 2000 to October 2002. If you had sold off your stocks when they were falling and reinvested when it was clear the bear market was over, you would have missed the first 19.4% gain in the 5-year bull market that followed – 1/3 the appreciation in stocks during that time (Source: Ned Davis Research, Inc).
Staying Invested Through Recessions
The swings of the past few months have taxed the nerves of even the most calculating investors. Sometimes the most difficult thing to do in investing is nothing at all. Nobel Laureate Dan iel Kahneman, considered the father of behavioral economics, suggests that we “would be better investors if we just made fewer decisions.”
It is often difficult to make rational investment decisions when the markets are fluctuating wildly. Here are a couple of suggestions that might keep you from making rash investment decisions:
• Tune out the market reports. It is probably not a good idea to obsessively watch CNBC or check your stock's performance on the Web all day. The more information you have, the more likely you could make a decision that deviates from your long-term strategy.
• Economists often disagree about when a recession officially starts, but it may be slightly easier to anticipate its end. The Standard and Poor's 500 Index tends to hit bottom 4 or 5 months before the end of a recession, according to research by Hussman Funds. Stocks tend to anticipate the direction of the economy, so you shouldn't wait on the sidelines for clear signs that the recession is over. As Warren Buffet wrote recently in the New York Times, “If you wait for the robins, spring will be over.”
While we can all be thankful for this one piece of good financial news, here's hoping that such measures are no longer necessary by the time next year rolls around!
One strategy that always seems to help during this difficult period is to meet with your financial advisor on a regular schedule. We have found that communicating and reevaluating our client's and prospects' needs are essential. Please call us if you have any additional questions or would like to schedule a meeting to review your specific financial picture.
Content provided by MDP, Inc. © MDP, Inc.
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