Hanging on Through the Turbulence

Patience & diversification matter in all manner of stock market climates.

Stocks rise, fall … and rise again. Volatility certainly came back to Wall Street during the first several weeks of 2014 in the form of a 7.2% descent for the Dow Jones Industrial Average and a 5.9% retreat for the NASDAQ. The declines gave investors pause: was a correction underway? Would bulls be held back for 2014?¹

As it turned out, no. On February 27, the S&P 500 settled at a new all-time peak of 1,854.30, with dovish remarks from Federal Reserve chair Janet Yellen providing lift. On the same market day, the DJIA closed at 16,272.71 and the NASDAQ at 4,318.93.²

Ups and downs are givens when you invest in equities. Still, the skid stocks took in 2008-09 has made everyone from millennials to members of the Greatest Generation anxious about any string of down days for the big indices. If the benchmarks lose a couple of percentage points in a week, or more in a month, headlines and news alerts emerge and encourage collective fears of a stock bubble.

Be patient; be prepared. We don’t really know what will happen tomorrow, and therefore we don’t really know what will happen on Wall Street tomorrow (though we can make educated guesses in both respects).  Because of that, it is important to diversify your portfolio across different asset classes and rebalance it from time to time.

Would you rather have a portfolio that might perform at least decently in varied stock market climates, or a mix of investments that only makes sense in a bull run? We recognize that diversification is important, especially for the long run … and yet, when things go really well or really poorly on the Street, impatience and anxiety readily lure us away from conventional wisdom.

The S&P 500 rose 29.6% in 2013, 31.9% with dividends included. Rationally, investors realize that such phenomenal stock gains won’t happen every year. Even so, the temptation to go full-bore into U.S. stocks and equity investments was pretty strong at the end of 2013 … comparable to the call to invest in gold back in 2008-09.⁴

If an investor relied on impulse rather than diversification across these past few years, he or she might be poorer and/or awfully frustrated today. Stocks are firmly in a bull market now, but an investor hypothetically going “all in” on domestic stocks at the end of 2013 (i.e., buying high) would have faced a market decline early in 2014 and might have impatiently sold their shares.³

Strategies like dynamic asset allocation attempt to leverage better-performing sectors of the market while shifting portfolio assets away from underperforming sectors. Such tactical moves may lead to improved portfolio performance. Of course, the strategy also seeks to foster intelligent diversification across asset classes.

Dynamic asset allocation is a strategy best left to professionals, even teams of them. Most retail investors would be hard pressed to even attempt it, even at a basic level. This is why the buy-and-hold approach (buy low, sit back, ride it out, sell high years later) is so often suggested to those saving for retirement and other long-term objectives.

Hang on when turbulence affects the markets. Staying in the market can prove the right move even when the news seems cataclysmic – look at how stocks have rebounded, and hit new highs, since the precipitous fall the S&P took in the recession. Sticking with principles of diversification is important in both challenging and record-setting markets.