February’s 10.2% drop in the S&P 500 brought the markets into correction territory for the first time in two years, ending a remarkable and unprecedented run for stocks. But even after the impressive run, the correction left investors feeling awful. In fact, they probably felt abysmal considering how long it was since the previous technical correction. Investors’ emotions ran amok.
That’s often the most difficult part of investing: the emotions felt by investors. Even though corrections are both normal and healthy for the stock market, the default reaction is “let’s call it a day and sell.” It’s a difficult truth to accept, but it’s a critical step to mentally prepare for the next correction. Here are a few tips that can help investors come to grips with stock market realities.
Understand Your Strategy
When it comes to a correction, our clients most frequently want to know when it’s going to happen, how long it’s going to last and how deep it’s going to go. While those are the questions often discussed on television, they aren’t the most productive. As advisors, we strategically assemble our clients’ portfolios to weather many storms, from parabolic climbs to steep drops. As a result, a correction today very rarely impacts long-term security. Frequently, the investors who don’t understand that panic the most.
Look beyond the Headlines
The financial news media tends to report events using eye-catching headlines designed to grab your attention, and sometimes unsettle you. It is important to remember that one of the goals of financial television is to gain more viewers and increase ratings, and catchy headlines are the best way to do that. Those might be good for ratings, but they don’t always apply to average investors. Whether it is new tariffs and increased trade tensions, changing geopolitical dynamics or a high profile bankruptcy, it is important to put these events in perspective. We find that after reaffirming the objectives of a client’s long-term strategy, and how recent events tend to have a limited impact that strategy, clients are typically much more confident that they are still on the right track.
Manage your Emotions
Hand-in-hand with understanding your strategy is having the confidence to stick with it even when times get tough. We frequently hear one other common question during a correction: “What are we going to do about it?” It’s a valid question. When faced with a problem, our default reaction is to actively do something to fix it. However, our answer is usually that we’re not going to do anything. Because corrections are baked into the original strategy, investors don’t need to dive in and out of the markets in order to have success. Practically speaking, investors should remember that corrections never last forever, and when it comes to the stock market, declines are temporary. Sticking to your strategy gives you the peace of mind to know that you can take advantage of all market gains. Bucking your strategy during this time period only increases the odds that you will permanently lose money.
Focus on What You Can Control
No matter how hard you try, or how hard you wish, there’s simply no way for the average investor to control the stock market. Consequently, spending time or energy getting worked up about the ups and downs is counterproductive. Research of investor behavior shows that reacting can hurt performance. It is easier said than done, but in times of turmoil investors should focus on the elements of investing they can control. You can’t move the market. You can adjust your portfolio – within your established strategy – to take advantage of the nervousness in the market, for example. Instead of thinking about how the Dow Jones Industrial Average dropped 300 points, you can think about your goals. More often than not, you’ll realize that short-term market movement doesn’t have a significant impact on your long-term goals. By managing your emotions about the things you can’t control, you’ll put yourself in a much better financial mindset about the things you can control.
After February’s correction, almost no one remembered the Dow was still positive for the year. Most portfolios were still positive for the year, as well, but you might not know that based on the emotions of many investors (and the news media). That’s in part why advisors exist: to balance the spontaneous emotion that can negatively impact an investor’s portfolio. But investors can coach themselves on how to balance those emotions as well. These tips are a good place to start in preparation for when – not if – the next correction occurs.
For questions about how your investment strategy, and how it mitigates long-term risk, talk to your Wescott advisor.