Be ready for the next fall
There’s a lot to learn from a stock market free fall.
Investors with 401( k) s looking to better prepare themselves for the next big dive should start by analyzing how their nerves and portfolios held up during this month’s bout of turbulence, which briefly pushed down stocks 10% for the first time in two years.
The recent market “correction” in which the Dow Jones industrial average suffered two daily drops of more than 1,000 points likely exposed flaws in your financial plan and the way you think about investing.
With the market stable for now and the Dow having recouped half of its recent losses, it’s time to plan for the next scary plunge.
“People should take this as a reminder of how markets behave,” says Brad Bernstein, senior vice president of wealth management at UBS Financial in Philadelphia. “They have been spoiled by a long period of low volatility and no market corrections.”
Analyze your own behavior
Successful investing is a lot about emotions.
Panic and fear are the enemies of good financial choices. The key is to remain calm and avoid a freak- out that results in poor decisions, such as bailing out on stocks just before the market rebounds.
“Taking amoment to analyze your own reactions as an investor is a great idea,” says Andrea Coombes, investing and retirement specialist at NerdWallet.com.
Keep a financial diary
To avoid making rash decisions, keep a financial diary, or “investing journal,” that details your portfolio changes and the logic behind them, advises Dan Egan, director of behavioral finance and investing at Betterment, an online and digital financial advisory firm.
Focus on facts
To squash fears, Bernstein focuses on mar- ket performance in past downturns. “It’s a great time to remind clients that corrections are normal,” he says.
Put losses in context
Just because stocks fall doesn’t mean your portfolio is down that much, Bernstein notes. If you have only 50% of your money in stocks and the other half in bonds and cash, your portfolio’s loss is about half of the stock market’s loss.
Stress test your portfolio
So, how would you cope with a big market downturn? The only way to know is to calculate how much money your current holdings could lose if, say, a bear market happened.
Bottom line: Don’t open yourself up to more financial pain than you can handle.
Map out a battle plan
Put in writing now how you will respond and stick to the plan, Egan says.
“Make the decision when you are cold and rational because you don’t want to make financial decisions that are driven by emotions,” he says. If you want to buy on a 10% dip, follow through when the next correction strikes. If you still plan on being a buyer with the market down 20%, refer to that written plan again.