After three consecutive years of double-digit stock market gains, 2022 has begun with a rapid correction in global equity prices.
Market corrections always provoke doubt and uncertainty. They are usually accompanied by a scary narrative. Here are some considerations for this situation, as well as best practices for any period of market volatility.
What Is Causing This Correction?
Currently, tightening monetary policy and higher inflation have investors spooked. Fueling the fire, there are popping bubbles in speculative assets and geopolitical tension with Russia.
Most market corrections fade away, while some deepen into bear markets. In our experience, most true bear markets emerge slowly, quietly rolling over for months or quarters with most of the damage arriving in rapid fashion toward the end. This suggests current volatility may blow over soon, but it is just one factor. The financial media is full of opinions predicting both paths, highlighting uncertainty.
Well over a third of Nasdaq listed stocks are down more than 50% from their peak, many of them much more. This week marks the one-year anniversary of the initial GameStop mania, and we suspect most Reddit/Robinhood day-traders have since thrown in the towel. What is happening now may largely be a function of forced deleveraging among retail investors, which could be healthy for markets.
What Should I Do in Times of Market Volatility?
You can take a few actions to ride out this – or any – period of volatility.
1. Don’t time the market.
A good portfolio grows over the ups and downs of market cycles. Rebalance, and harvest losses in taxable accounts. Corrections can recover just as fast as they start, so timing them is usually dangerous and counterproductive.
Tip: Get peace of mind by seeing how your portfolio would have fared in historic recession periods with the Personal Capital Recession Simulator.
2. Keep investing.
Now is not the time to sit on extra cash if you have a long-term time horizon. Uninvested cash without a purpose is losing money to inflation.
Read More: How to Manage Inflation
3. Maintain a diversified portfolio.
In choppy times, diversification does not immunize from losses, but it can soften the blow and reduce risk of very bad outcomes. Asset allocation remains most important. International stocks are more attractive from a valuation basis and are holding up better so far this year. Bonds are lower, but by a fraction of what stocks are. International real estate, gold and commodities are also holding up better.
4. Beware of concentration risk.
If you are holding a concentrated position in a larger company that has been more stable, don’t assume it is safe. In the dotcom bubble, less profitable companies were the first to fall, but ultimately almost nothing on the growth side of the market avoided major damage (value held up relatively well). In that instance, the tech sector would plummet 80%, crushing even dominant market leaders along the way. Markets could rebound quickly. Even if they don’t, we do not expect a repeat of that magnitude. Still, it is important to understand history and be aware of the parallels.
5. Sort through lingering concerns with a financial advisor.
If recent volatility has you unnerved, consider if you may have overstated your risk tolerance. It is normal to be uncomfortable in corrections, but if you are taking more risk than you can handle, you may be prone to emotional mistakes in the future. Speaking with an advisor can help you accurately gauge your risk tolerance and properly align your portfolio for the long haul.
The Bottom Line
This is a period of increased risk, as evidenced by the wild intraday swings we saw this week. It is likely to pass quickly, but either way it will pass.
This week’s Fed meeting is meaningful, as are earning results from some mega tech companies, but we don’t believe that any result will lead to a binary outcome.
One way to stay calm and carry on investing: Start with knowing where you stand. Millions of people use Personal Capital’s free and secure online financial tools to keep tabs on their investments and plan for long-term goals.
When you sign up with the link below, you also gain access to our free guide, 5 Steps to Prepare for Market Volatility.