Next week, your monthly investment statements will arrive via mail or email. And unless your portfolio has been invested 100% in Treasury Bonds, you’re going to see unrealized losses on your statement, as it’s been a terrible month/quarter in the stock market.
First thing to remember, those losses are paper losses, also called unrealized losses. When do they go from being unrealized losses to actual losses? Answer: When you actually sell the fund or stock that’s underwater.
With the resurgent popularity of tax loss harvesting, where your aim is to strategically sell securities at a loss to offset the capital gains in your portfolio, you welcome the opportunity to lower your tax bill at the end of the year by booking losses. With the recent correction in the markets still going on, there should be opportunities galore to harvest losses to offset gains.
Yet, while the benefit of reducing your overall tax bill by tax loss harvesting is a net positive, the challenge for many investors still remains sticking to their overall financial plan. Easy for most to do when the stock market is performing well, not so easy during very volatile times like we’re experiencing currently.
Stick with your plan….even when the market gets scary
Making changes to your investment strategy while global markets are going through a much needed correction is highly risky, potentially harmful to your financial future and could very easily backfire. Yet over and over and over again, statistics show that the biggest mistake investors make year in and year out is attempting to time the market, in other words, the proverbial mistake of selling low and buying high.
During emotionally charged times like we’re currently experiencing, it seems there’s always a person you know or work with that hears about someone they know, or someone that knows someone that has the true scoop about the markets and that someone has moved all their investments into cash or gold.
That’s right, this someone special with exclusive insider knowledge has sold everything and moved all their money into cash or gold because why? Well who knows why really? And has that someone really moved all their money into cash or gold? And if they did, what’s the point and more importantly, what’s the strategy post cash/gold?
So what to do during market volatility? Perhaps nothing.
If you're watching the recent market correction and wondering what to do, consider learning how to cope with volatility instead of changing your financial plan.
Often, the wisest thing to do during periods of extreme market volatility is to stick with the investment plan that you've already developed. Equity markets have reaped sizable gains over the past six years. Such setbacks, while unnerving, are inevitable.
A 'do nothing' prescription might be tough to swallow if you've been caught off-guard by recent volatility. But no action is an active decision, and can be the right decision for reaching long-term financial goals.
Here are a few simple tips to help you through the current market volatility.
#1: Recognize that volatility and periodic corrections are common in equity markets.
The key to getting through unexpected turbulence is to understand that swings in the financial market are normal—and relatively insignificant over the long haul. The best approach to protect portfolios is to diversify among a broad mix of global stocks and high-quality bonds so that you are better poised to buffer the declines in the equity market.
#2: Tune out the noise, and remove emotion from investing.
Seeing the same story at the top of every news site you visit, as well as seeing related portfolio fluctuations, is likely to worry you more than it should.
If you're a long-term investor, resist the urge to make drastic changes to your investment plans in reaction to market moves. You may find what's driving the overreaction in markets is nothing more than speculation.
Making shifts to your portfolio in hopes of avoiding a loss or finding a gain rarely works long-term. Investors who panicked and dumped stock holdings in 2008 and 2009, believing they could get back in when 'the coast was clear', likely suffered equity losses without the benefit of fully participating in the recovery. Vanguard research finds that a buy-and-hold approach outperformed a performance-chasing strategy by 2.8% per year on average during the 10-year period analyzed.
Also, try not to look at your accounts every day. It's unnecessary and may do more harm than good. Remember that portfolio changes, aside from routine rebalancing, can result in significant capital gains. And don't forget you need to know when to jump out of the market and then get back in—decisions few investors can and should tackle.
Rule #3: Make volatility work for you.
Save more, and continue to invest regularly. Boosting savings is important to your long-term financial goals. If you invest regularly through payroll deduction, an automatic investment plan, or a target-date fund, you're putting the market's natural volatility to work for you. Continue making contributions to take advantage of dollar-cost averaging. Buying a fixed dollar amount on a regular schedule offers opportunities to buy low during market dips. Over time, regular contributions can help reduce the average price you pay for your fund shares.
The Inaction Plan
If your portfolio is broadly diversified and has the appropriate balance for your financial goals, time horizon, and risk comfort level, sticking with it is a wise move.
Because no one knows what the future holds, a globally diversified strategy can be more advantageous than shifting too much in any direction. You can resist the temptation and save yourself the stress by tuning out the noise. It's okay to ignore volatility—that's part of the plan.
Bottom line: Emotions and investing can be a losing combination. Don’t abandon your investment strategy because the market is uncertain. Instead, practice being fearless.
Photo credit FrankieLeon