Investment markets in the last few months have been like a windy day, moving on a whim, affecting your portfolio, and making it hard to hold steady. We have an inherent aversion to suffering losses, and a loss of 5% feels more significant than a gain of 5%. You know you shouldn’t sell when the market is low, and you know that the market always recovers in the long term – but how do you reign in your emotions and hold your hat on when the wind is blowing this way and that. Here are five things to hold onto when the wind is blowing every whichway:
1. Know Yourself
Understand your time horizon, financial situation, emotional tolerance for market exposure, so that you won’t want to change your allocation when markets are down. You and your financial advisor have discussed your objectives and your risk tolerance when you agreed on your holdings. Have there been changes in your personal situation since then? If you expressed the idea that you may be making withdrawals of a certain amount within a year, then the portfolio should have planned dividends and interest of that amount or should have ear-marked that portion of your portfolio to be suitable to short-term investment. The portion of your portfolio that is suitable to long-term investment will have time to recover before you make your withdrawal. The more you can plan ahead for investment income or withdrawals, the better your portfolio can withstand volatility and while generating the income you need.
2. Know how to Overcome Emotions
Just as planning ahead for investment withdrawals helps the performance of your portfolio, planning ahead for investment deposits also enhances returns. While it is logical that volatile markets present opportunities to buy quality investments at bargain prices, our emotions make it difficult to intentionally buy during these times of uncertainty. We can overcome these emotions by using a disciplined strategy. Making fixed dollar deposits regularly, regardless of market movements, called Dollar Cost Averaging, means the same dollar deposit buys more units when prices are low and fewer units when they are high. Monthly or Weekly deposits provide the discipline to buy more when prices are low, and automatically provide a lower average price for your holdings. Below is an example of $200 invested monthly and how dollar cost averaging lowered the average price per share and purchased more shares with the same amount of money.
3. Know Your Portfolio
Is your portfolio as diversified as you think it is? The portfolio’s weightings in different asset classes may shift over time as one investment performs better or worse than another. If you benefitted by taking a heavier position in a sector that grew significantly in the short-term, it would be normal for that sector to participate more in market volatility. Each year, different asset classes outperform; if your portfolio is diversified by asset class, geography, investment style, company size, then you can reduce the overall risk and volatility of the portfolio in comparison to the index. Know your plan and stay with it to avoid transactions that may lock in losses.
4. Know the Cost of Jumping In and Out
When markets are volatile, some people try to jump out of the markets to cash, wait for the perfect moment, and jump back into the market. However, stock markets move quickly, and often investors are slow to recognize a retreating market, jumping out after a drop, and also slow to feel confidence in an upwardly trending market, jumping in after missing out on gains. Jumping in and out of the market can take a big bite out of your returns. For example, we can see that the S&P/TSX Composite total return from Jan. 1998 to Jan. 2019 returned 6.5% annually. However, missing the 10 best days in that 20 year period would have reduced the annualized return to 3.5% and missing the top 30 days in the period would have dropped the 6.5% annual returns to just breaking even.
5. Know the Truth
Today’s easy availability of investment news and internet access to index returns and portfolio tracking are wonderful conveniences and good sources of information – but they are not a source of wisdom. With markets moving on a momentary tweet or rumour, we need to remember the truth that stock markets have out performed every other asset class over time. While media provides a valuable service, they typically offer a short-term outlook, and report market weakness loudly while reporting market strength quietly. To put your investments in a longer-term perspective and boost your confidence, tune out the short-term noise and look at how markets have performed over time. Ask your advisor for returns by year as well as compound annual returns.
We hope these five ideas will help you hold on to your hat while being buffeted by the winds of change. Please contact your Investment Advisor with any questions about your portfolios or your financial plans.
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