How to Survive a Stock Market Correction.

The Dow Jones Industrial Average continues to ascend to new heights.  The higher the market climbs, the more noise you’ll hear about a stock market correction.  At some point those calling for a market correction will be right.  Stock market corrections are typical and occur about every three to five years.   A bear (down) market will last about 18 months while a bull (up) market will run for about 8 years.[1]

How can you protect yourself against a bear market attack?

  1. Don’t panic! A market drop is normal, painful, but normal.
  2. Don’t make any changes to your portfolio during the initial phases of the market correction. Let the market find its footing before you make any major adjustments to your account.
  3. Cash is king. If you have a cash cushion, you’re less likely to make rash decisions regarding your stock holdings.   How much money should you keep in cash?  My recommendation is for you to hold two to three years’ worth of expenses in cash.  If your annual expenses are $50,000, then your cash amount should be in the range of $100,000 to $150,000.
  4. Diversify your assets. A balanced portfolio of stocks, bonds, cash and alternative investments will help cushion the blow from a market drop. During a market drop it’s likely your bonds will perform well.  During the 2008 market mauling long term U.S. government bonds rose 25.9%.[2]
  5. Rebalance your portfolio. By rebalancing your portfolio, you’ll take advantage of lower stock prices.  Rebalancing will allow you to keep your risk level and asset allocation in check.
  6. Eliminate your margin balance. A sure way to lose more than you intended is to use leverage.  If you’ve tapped the margin in your account to buy securities, I would encourage you to eliminate it entirely.   The best way to make a bad situation worse is to employ margin in a down market.
  7. Stay invested.  The two days following the stock market crash of October 19, 1987 the Dow Jones Industrial Average rose 16%.  Despite the dramatic drop of Black Monday, the Dow ended 1987 with a gain and has since risen 1,100%.
  8. Look for bargains. Is it possible your favorite stock is now 25% or 50% cheaper?  If you’re not sure what to purchase, focus on a broad-based index fund.   An index fund will allow you to gain market exposure with the click of your mouse.
  9. Think long term. A bear market lasts about 18 months.  It’s likely you’ll own your investments for years, maybe decades, before you need the money.   Thinking generationally will help get you through the dark days of a market downturn.
  10. Markets recover. The stock market has always recovered – always!  The Dow is currently trading near its all-time high.
  11. Have fun. The market will go up, down and sideways long after we’re gone.  Instead of marinating in a stew of worry get outside and enjoy your friends, family and hobbies.

Stock market corrections come and go.  The market is a long-term wealth creation machine that is occasionally interrupted with a pullback.  If you stick to these tips, you’ll have an opportunity to benefit from the stock markets long term performance.

Even though I walk through the darkest valley, I will fear no evil, for you are with me; your rod and your staff, they comfort me.  ~ Psalm 23:4.

Bill Parrott is the President and CEO of Parrott Wealth Management, LLC.   For more information on financial planning and investment management, please visit www.parrottwealth.com.

March 10, 2017

[1] https://www.forbes.com/sites/robertlenzner/2015/01/02/bull-markets-last-five-times-longer-than-bear-markets/#12745f772dd5, Robert Lenzer, January 2, 2015, site accessed 3/10/17.

[2] Dimensional Fund Advisors 2016 Matrix Book.

Dump the Trump Bump?      

The stock markets (all of them) continue to soar to new heights.   Since the presidential election, the Dow Jones Industrial Average is up 14.5%.   Several experts are a calling for the market to give back these gains and then some.   One advisor has called for the stock market to fall as far as 11,500 a drop of 44% from the current level.[1]  Another has called for a “$68 trillion biblical collapse.”[2]  Finally, one economist has said the stock market is currently 80% overvalued.[3]  Scary.

Is it wise to sell your investments and ride out the coming stock market decline?

Let’s look at some history.

The Standard & Poor’s 500 Index is up 20% on a year over year basis.  For the past five years, it’s up 93.3%.  During the last fifteen years, it has gained 173.2%.  Over the past twenty years it has risen 321%.  For the record, the stock market has never fallen 321%!

Looking back to 1987, a portfolio owning the Vanguard S&P 500 Index Fund and the Vanguard Total Bond Fund generated a total return of 977%.   A $100,000 investment is now worth $1,075,000.  During the past thirty years, this portfolio’s best year was in 1995 gaining 27.80%.  2008 was the worst year as it dropped 16.57%.  In this simple portfolio, you own some of the markets best performers including Apple, Microsoft, Amazon, Berkshire Hathaway and Facebook.

What should you do as the market continues to climb to new heights?   Here are few suggestions.

  1. Nothing. You don’t have to do anything.  History tells us that time in the stock market is the best way to create a mountain of money and produce generational wealth.
  2. Diversify. If 100% of your money is invested in the Dow Jones or S&P 500, move some of it to other investments like small companies, international companies or bonds.
  3. Plan. What does your financial plan say?  Have you arrived at your financial destination because of the markets rise?  If so, sell some of your equity holdings to reduce your risk exposure.
  4. Buy. If the market does drop 20% or 30%, then buy the dip.  Adding to your equity holdings when the market drops has proven to be a prudent financial strategy.
  5. Give.  If you have benefited from the rise in the market, take some gains and donate the money to your favorite cause.

Of course, no one knows what the stock market will do or when.   The best strategy is to focus on your goals, save your money and think long term.

Predicting rain doesn’t count. Building arks does. ~ Warren Buffett.

Bill Parrott is the President and CEO of Parrott Wealth Management, LLC.  www.parrottwealth.com.

February 14, 2017

 

Note:  Your investment returns may be more or less than those posted in this blog.  Past performance is no guarantee of future results.  The financial data has been generated from the Morningstar Office Hypothetical Tool as of 2/14/17.
 

[1] http://www.cnbc.com/2016/06/22/dow-11500-is-a-matter-of-when-not-if-advisor.html, Michelle Fox, June 22, 2016,.

[2] http://thesovereigninvestor.com/exclusives/80-stock-market-crash-to-strike-in-2016/, JL Yastine, January 30, 2017.

[3] Ibid.

It Will Rain on May 23rd, 2025. At Noon.

Will it rain on May 23rd, 2025?  I have no idea.  It may.  Who knows.  If it does rain, I’ll look smart.  I have a 50/50 chance.  It will either rain or it won’t.   A major-league baseball player who hits safely 50% of the time and ends up with a batting average of .500 would be considered the greatest athlete of all time.   An NFL place kicker who makes 50% of his field goal attempts will be fired.

Investors and media folk put their faith in stock analyst and treat their picks and price targets as Gospel even though they’re right only about 50% of the time.  In a 2012 report from Nerd Wallet they found analyst who followed the thirty stocks in the Dow Jones Industrial Average were right in their stock picks 51% of their time.[1]  In a deeper study from researchers at the University of Waterloo and Boston College they found analyst missed their price targets about 70% of the time.[2]  Regardless, analyst continue to make bold stock predictions and investors continue to hang their hat on these guesses.

One way to beat the analyst and Wall Street at their own game is to own a basket of index funds.  With an all index portfolio, you don’t have to worry about stock picks or price targets.  With an index portfolio, you’ll have the opportunity to own companies all over the world with access to all the investment sectors.

There may be a conflict of interest for an analyst to recommend a stock they own but it has always surprised me when they don’t own one share of the company they’re flaunting.  If an analyst was so sure a stock was going to climb 20% or more why not own a few shares themselves?

In a recent Wall Street Journal article about market predictions, analyst have prophesied about positive market returns every year since 2000 even though the stock market has fallen about a third of the time.  The 2008 forecast from Wall Street strategists were pointing towards a positive year.  In 2009, their outlook was dire.[3]

Can you succeed as an investor without analysts or Wall Street?  I believe you can. A simple strategy is to own a diversified basket of low cost index funds.

The following portfolio generated an average annual return of 8.25% over the past twelve years.  This year, through November, the portfolio is up 9.95%.   Here is the all-equity portfolio[4].

  • IVV – iShares S&P 500 Index.
  • VO – Vanguard Mid-Cap Index.
  • IJR – iShares S&P 600 Index.
  • VNQ – Vanguard Real Estate Index.
  • EFA – iShares MSCI EAFE International Index.
  • EEM – iShares MSCE Emerging Markets Index.

However, this portfolio did miss the mark on occasion.   During the twelve-year run, it had three losing years with a drop of 40.8% in 2008.   It did rebound a year later with a return of 38.8% followed by a 19.4% jump in 2010.

As we move towards 2017 it may be time for you to adjust your New Year’s resolutions to focus on a low cost, diversified index portfolio.  My prediction is that you’ll find it beneficial towards your long term financial health.

Never make predictions, especially about the future. Casey Stengel

[1] https://www.nerdwallet.com/blog/investing/investing-data/investment-stock-analyst-ratings-stockpicking-research-wrong/; Nerd Wallet, April 16, 2013.

[2] http://business.financialpost.com/investing/analysts-target-prices-rarely-accurate-global-study-finds?__lsa=4ddd-c96b; David Pett, March 7, 2013.

[3] Wall Street Journal, December 9, 2016; James Mackintosh

[4] Morningstar Hypothetical Tool.  November 2011 to November 2016.