After the remarkably successful run over the past few years in the stock market, it could be easy to forget about volatility. Until, that is, the sudden stock market drop in early February delivered a painful reminder that the market can go down as well as up. It is critically important to put this drop in perspective and not make short-term decisions that could jeopardize your long-term plans.
Although market volatility is a given, so is the fact that history shows the stock market has gone up much more often than it has gone down. The stock market, represented by the S&P 500 Index, has had positive returns for 29 of the past 37 years. Historically, investors who bailed out in down years missed some big rebounds. The most recent example: the stock market lost 38 percent in 2008, but then increased in value by nearly 300 percent from 2009 through 2017. Those who were scared to the sidelines suffered a second time by missing the recovery.
Missing just a few key days in the market can make a big difference. If you invested $10,000 in the stock market in 1992, you'd have $108,682 by Dec. 31, 2017. But if you missed the 10 best days in the market, you'd cut your returns in half— leaving you with $54,239.See a hypothetical example in the chart below. Markets tend to be more volatile in the short term, but smooth out over the longer term.
Past performance is no guarantee of future results
Instead of panicking during periods of volatility or trying to time the market, the savviest course is to stick to your plan that is based on your time frame and risk tolerance. Markets tend to be more volatile in the short term but smooth out over the longer term. If you don't plan to retire for many years, you may still be able to ride out the market's ups and downs. And again, you have to consider your risk tolerance and personal financial situation.
Diversifying your investments, while it doesn't prevent loss of money, can help mitigate volatility. You could invest your long-term savings in stock funds, but also keep some money in bond funds and cash, which generally perform differently than the stock market. You can also diversify within stocks— investing some money in large company stock funds, some in small company funds, and some in international stock funds— because some types of companies may have a good year while other types of firms struggle. It's also a good idea to rebalance your portfolio every year in order to avoid some types of funds becoming more or less of your total portfolio than intended.
If you plan to retire soon, you can't afford to have as much volatility, and that means that as you get closer to your retirement date it's a good idea to start shifting more of your money to less volatile investments. Some people close to retirement move enough money to cover two or three years' worth of expenses into a cash or stable value fund so it's accessible for their bills, no matter what happens with the stock market. But because retirement could last for 20 or 30 years, it's equally important to keep some money invested for the long term in a diversified portfolio of stock and bond funds.
Having a long-term investing plan may help tamp down anxiety during periods of volatility. And dollar-cost averaging— investing money automatically every month, such as through your 457 plan— can help take the emotions out of investing and make you less likely to try to time the market. When stock prices are down, your investment will buy more shares to grow when the market turns around.
If selecting individual fund options is not your style, you can consider a target-date fund, in which professional managers gradually shift the portfolio toward more conservative investments as the "target" date for beginning withdrawals gets nearer. For more information about MissionSquare Retirement's resources that can help with your investing decisions, see Choose Your Approach to Investing.
