THERE’S A REASON VOLATILE MARKETS MAKE INVESTORS UNCOMFORTABLE
Wide swings in prices create uncertainty, and uncertainty stirs feelings of doubt and insecurity. But in free markets, where prices are dynamic, not static, volatility is unavoidable. And it is in volatility that investors can find opportunity. How? History tells us down periods usually are followed by up periods (and vice versa); continuing to invest during slumps tends to add to future potential returns; and a portfolio diversified across asset classes can provide the potential for positive returns in any global environment. In sum, long-term diversified investors needn’t fear volatility.
IT’S NEVER A ONE-WAY MARKET
Long-term investors may be better served by riding out equity market slumps. After all, the market can and will go down. As the chart below shows, over the last three decades, in every year but one, the market was negative at some time during each year. However, in 26 out of 31 years, the market still ended the year positive.
The lesson: The market can finish in positive territory despite significant intra-year volatility.
Source: Morningstar Inc. This chart shows calendar year returns (blue bar) and intra-year stock market declines based on monthly returns (orange dot). Intra-year declines refer to the largest market drops from a peak to a trough during the year. Past performance is no guarantee of future results. This chart is for illustrative purposes only and not representative of performance for any particular investment. Indexes are unmanaged and cannot be invested in directly. See last page for index definition.
STICK WITH A PLAN
One mistake investors may make is to put regular contributions on hold during volatile market sell-offs. But over the past 30 years, investors who stopped contributing $200 during months of declines of 10% or more in the S&P 500 would have meaningfully reduced their returns (even though they stopped contributing for just 73 of 360 months).
The lesson: By forgoing the opportunity to average in at more attractive prices during market bottoms, staying out can mean missing out.
Systematic investing does not assure a profit nor protect against loss in declining markets. Investors should consider their financial ability to continue purchasing during periods of low price levels.
Source: Morningstar, Inc. Growth of a $10,000 investment in the S&P 500 Index over 30 years (12/31/85-12/31/15). Green represents a continual monthly $200 contribution. Blue represents no $200 contribution during months involving 10% declines in the market indicated by the orange shaded bars. Past performance is no guarantee of future results. This chart is for illustrative purposes only and is not representative of performance for any particular investment. This chart is for a selected time period. Results over different periods would have varied. Indexes are unmanaged and cannot be invested in directly. See last page for index definition.
LET TIME BE ON YOUR SIDE
Investors may use various asset classes and sectors to diversify their portfolios, be they stocks versus bonds, emerging versus developed markets, commodities versus consumer staples. But there is one unifying characteristic: all are subject to periods of significant volatility and loss. The counter is, they have the potential to recover quickly, too.
The lesson: Time may not heal all wounds, but in a volatile investment world, it can be a principal component in an investor’s toolkit.
(Barclays U.S. Aggregate Bond)
|Small-Cap Growth Stocks
(Russell 2000® Growth)
(MSCI Emerging Markets)
Source: Morningstar, Inc. Annual returns for indexes. Results for other indexes and over different periods would have varied. Past performance is no guarantee of future results. Indexes are unmanaged and cannot be invested in directly. See last page for index definitions. For illustrative purposes only and not representative of performance for any specific investment.
PLAN TO BENEFIT FROM VOLATILITY
Volatility, after all, is normal and necessary for an orderly market. Don’t let it prod you into acting against your best interests by heading to the sidelines or, worse, selling when markets may be at their cycle lows. Instead, devise a plan and stick with it, understanding that in general, the riskier the asset, the greater the potential for reward and the potential for loss.
The lesson: There will always be volatility. Plan for – and find opportunity in – it.
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