What To Do When Stock Markets Get ‘Crazy’

Sometimes it’s hard to think rationally when the stock market seems to be behaving so irrationally. Knee-jerk reactions to rapid stock market movements have cost the average investor millions and millions of dollars in recent months.

At times it may feel like the sky is falling, but it’s really not. Market volatility is a normal part of the normal market cycle. But each time we experience severe market volatility, most investors feel like “this time it’s different”. I believe it was Mark Twain who said, “History doesn’t repeat itself, it just rhymes”.

In times of severe market volatility it’s always a good idea to go back and review your investment basics and your long-term investment plan. Your two greatest defenses during volatile market times are patience and discipline.

The discipline part actually comes into play when you are constructing your portfolio. Diversification has always been an important part of building a successful long-term portfolio.

Diversification is not going out of style. Hopefully, it didn’t take a market shakeup for you to realize this. The whole idea of diversification is to own different assets within your portfolio that don’t all react the same way to any given set of economic or geopolitical circumstances.

This is why “alternative” investments have gained in popularity in recent years. Assets such as real estate, commodities such as oil and gas, hedge funds and private equity typically have a low correlation to the stock market. In other words, every time the stock market goes up the alternative investment does not and every time the stock market goes down, the alternative investment does not.

By diversifying, we are admitting that we don’t know the short-term direction of any of the investment markets. What we do know is that a well diversified portfolio, over time, will give us our best chance of achieving our long-term financial goals.

I also believe that the more volatile the markets become, the more important active management becomes. There are stock mutual fund managers out there who have a pretty consistent record of beating the market when the markets are down. They typically will leave some money on the table during strong up markets and will tend to do better than the general stock market’s when markets are down. I prefer this type of smoother ride.

Then there are those people who try to time the markets. This is extremely difficult to do well. Most investors want to buy stocks when they are doing well (priced high) and sell stocks which are doing poorly (priced low). This is called “buying high and selling low” when what you want to be doing is “buying low and selling high”.

Remember, time in the market is much more important than timing the market. Working with a financial advisor during difficult market times is often beneficial as they can help keep the average investor from irrational behavior. Find a financial advisor you trust and then listen to his or her advice. (journal-topics)