We all know that stock markets fluctuate. Over the last 70 years, the S&P 500 has lost 20% of its value 12 times. But over the same period, the S&P 500 was up nearly 15,000%, and, during the period 1926-2014, recorded a 10.1% average annual rate of return.
More recently, the stock market took a huge hit between October 2007 and March 2009. Since then, it has been almost straight up, to new record highs for most of the major averages.
Considering the foregoing, two conclusions are fairly obvious, a new bear market is almost certain, although the timing is unclear, and longer term, the stock market has provided excellent investment returns.
What to do?
It has been well established that market timing, while intellectually very attractive, has proven to be essentially, insurmountably difficult to implement. The obvious alternative strategy would be “buy and hold”.
The problem with buy and hold is, of course, the stomach churning nature of 20% plus market declines.
While toughing out the big drops may be the best long term strategy, it may be difficult for some investors to implement. Accordingly, perhaps the best compromise would be for each investor to understand the risks and to recognize how much pressure they can live with. To that end, investors might best be served by working with their advisor(s) to develop a balanced portfolio that can mitigate some of the market’s inherent volatility, while capturing some of the long term opportunity equities provide.
Only you can address the question of risk tolerance. Consider how you have behaved in previous bear markets. Know what you can live with. The worst long term results generally stem from succumbing to pressure (panic) and selling at or near the bottom.
All comments and suggestions are welcome.
Walter J. Kirchberger, CFA®