WHY TODAY’S STOCK VOLATILITY SHOULDN’T SCARE RETIREES
Yes, the market is more topsy-turvy now ... but that’s true only in the short term
Stock prices seem increasingly volatile. So much so that those saving for and those living in retirement are becoming increasingly fearful of putting their life savings at risk in markets that fall and rise as they have this year.
But a study that examines historical stock price volatility might help allay those fears.
The study in The Journal of
Wealth Management measured changes in the variability of equity returns on a daily and monthly basis and tested whether volatility has changed from 1926 through 2014.
What the authors found was this: Stock market volatility has increased, but only when measured on a daily basis, wrote Kenneth Washer, a professor at Creighton University, Randy Jorgensen, an associate professor at Creighton, and Robert Johnson, president and CEO of the American College of Financial Services.
“When measured using monthly increments, there has been no discernable change in return volatility.”
And that is good news for investors. “Long-term investors can take comfort that many of the large daily price declines are at least partially offset by similar price increases and that when measured over longer periods, volatility has not increased,” the authors wrote.
Johnson answered our questions about what pre-retirees and retirees ought to do in light of the findings.
QWhy should those saving for retirement not be afraid of increased daily stock market volatility? What about those just five to 10 years away from retirement?
A: I laugh a bit when people refer to “volatility,” as what they really mean is “downside risk.” Who has ever been concerned that their stock holdings are going up too quickly? In that same study, we also looked at downside risk over time on both a daily and monthly basis (and found that while it has increased significantly over time on a daily basis, on a monthly basis it hasn’t changed).
QSome
research suggests that stocks do not become less risky over time. Given that, and given your study, how might retirees deal with the sequenceof-returns risk?
A: The issue with sequence-of-returns risk is that investment volatility becomes amplified when having to sell assets to meet a spending goal. In essence, you might have to sell assets at a loss. The simple answer is to reduce portfolio volatility in the years around the retirement date. That means making adjustments to have a smaller equity commitment and a greater commitment to assets with more stable values.
Renowned golf instructor Harvey Penick — Ben Crenshaw’s coach — gave tremendous advice with respect to making changes in a person’s golf swing. Penick said, “When I ask you to take an aspirin, please don’t take the whole bottle. In the golf swing, a tiny change can make a large difference. The natural inclination is to begin to overdo the tiny change that has brought success.” The same is true with respect to de-risking your portfolio prior to retirement. Some believe that means getting completely out of the stock market. That thinking is flawed. If you retire at age 65, you might live another 15, 20 or 30 years or more. Many people make the mistake of adopting an overly conservative portfolio stance when they approach retirement. My advice is to “take an aspirin and not the whole bottle.”
QHow should retirees change their thinking?
A: Many investors suffer from what behavioral economists refer to as recency bias. They expect the immediate past to continue indefinitely into the future. When investors experience a volatile down day, or week, they expect that volatility to continue into the future.
A prime example of this happened early this year when in mid-February the S&P 500 had fallen by more than 10% from the start of the year. Some investors panicked and lightened their equity allocations only to find that the market has rebounded.
I believe that one of the greatest problems with investing today is immediacy of information. People have the ability to access their account statements on a daily, or even an immediate, basis. This causes a very short-term orientation and leads some people to trade more often than they did in the past when information wasn’t so plentiful.