“Game of Thrones” fans are familiar with the line, “Winter is coming.” While I can’t tell you for sure that, “market volatility is coming,” it is something that will always be lurking, even when it is at historically low levels. The best advice for investors is to expect market volatility and be prepared for volatility in advance.
Volatility is not necessarily a threat to long-term investors. Like winter in the “Game of Thones” example above, which is always followed by spring and summer, market drops historically over time have been temporary.
Consider that since 1980 the S&P 500 has had intra-year drops every year.
However, despite these drops, the index has been positive 28 out of the past 37 years. In 13 of those years, we had drops greater than 15% from the high and yet in six of those years the index ended by being up for the year with the seventh year ending flat. See details on this chart from J.P.Morgan.
The real threat comes from how we respond to the volatility that is naturally part of investing in risky assets. If investors can’t take the stress that volatility will inevitably come, then often they make poor, impulsive, emotional decisions that lead to long-term wealth destruction.
The solution then is to be prepared by accounting for volatility before it hits and making sure your portfolio is constructed to match your volatility tolerance level.
Whenever investing in risky assets, we as investors have to be comfortable with the level of volatility we take on to achieve the level of return we seek. If we don’t align these two things, we are likely to make bad, emotionally based decisions at exactly the wrong time. This will lead to portfolio losses and long-term wealth destruction.
If you haven’t recently reviewed your financial plan late to assess your volatility/risk tolerance, you should contact your CERTIFIED FINANCIAL PLANNER™ practitioner.
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