6 Investment Truths to Remember When the Stock Market Is Down

By Damian Davila on 20 March 2018 0 comments

Forget Halloween — February 5, 2018 stands as the new scariest day. On that day, the Dow Jones industrial average (DJIA) plunged almost 1,600 points, marking its biggest point decline in history during a trading day. If you felt like you wanted to sell off all of your stocks and take the money, you were not alone. Still, it's at times like these that you need to keep a cool head and stick to your original financial plan. Here are a few things to remember when the stock market takes another dive. (See also: 6 Confidence-Inspiring Facts About the Stock Market)

1. Historical average return of stocks is close to 10 percent

Take it from Sir John Templeton, who created one of the world's largest and most successful international investment funds: "The four most dangerous words in investing are 'This time it's different.'" (See also: 14 of the Coolest Sayings About Investing)

While losing 1 percent of your 401(k) balance on a single day may seem terrible, the reality is that it's probably going to be a small hiccup on an ever-increasing journey. The average return of the S&P 500 from 1968 to 2017 was 10.05 percent. Even when you take a look at a smaller period of time, this benchmark of the health of the overall stock market performs quite well. The S&P 500's average return for the 2008–2017 period was 8.42 percent.

2. The longer the holding period, the higher the average return

The concept of "buy and hold" has been around for quite some time, and it's a key thing to remember when the market looks rocky. Experts have long recommended riding out the rough times.

"The market pays a premium to those willing to endure the angst of watching their net worth fluctuate beyond what Wall Streeters call the 'sleeping point,'" wrote former Federal Reserve Chairman Alan Greenspan. (See also: 3 Pearls of Financial Wisdom From Alan Greenspan)

Warren Buffett, better known as The Oracle of Omaha, famously echoed the sentiment: "If you aren't willing to own a stock for 10 years, don't even think about owning it for 10 minutes." (See also: The 5 Best Pieces of Financial Wisdom From Warren Buffett)

Here's an example of why buy-and-hold holds true: The S&P 500 index increased 21.64 percent and 102.50 percent during the 2016–2017 and 2000–2017 periods, respectively. In investing, it truly pays off to go the distance.

3. Great time to pick up bargains

Think about the last time that you bought that new car, fancy new outfit, or high-tech 4K TV that you're so proud of. You probably spent days watching like a hawk for the moment that a deal would come up. When it did, you jumped on it. So, why would buying equities be any different? Wouldn't you also want to buy a share of a well-diversified portfolio or the stock of a great company at a discount?

If you keep in mind that the historical returns of stocks is close to 10 percent and you're planning to buy equities anyway, do consider buying when stock prices are low. After all, you have heard of "buy low, sell high," right?

4. Tolerance to risk changes over time

From tying the knot, to buying your first home, to being just five years away from retirement, several milestones will affect your perspective on life. And investing is no exception. If a market downswing hurt more than it did five, 10, or 15 years ago, you should revisit your portfolio allocation.

There is a plethora of investment options, including bonds, annuities, and mutual funds. If you feel that you need to dial down your exposure to stocks, you can allocate those funds to financial vehicles better suited to your updated view on life and investing. (See also: The Basics of Asset Allocation)

5. Trading triggers fees (most of the time)

A 2018 survey from TD Ameritrade found that more than 75 percent of Americans don't know how much they're paying in 401(k) fees. Even worse, 37 percent of those respondents mistakenly believe that they don't pay any 401(k) fees at all. The reality is that all 401(k) plan holders pay some type of fee.

And trading can trigger many of these fees. For example, a fund may have a redemption fee that requires you to hold on to shares of that fund for a minimum period of time or be hit with a fee ranging from 0.01 to 2 percent of the transaction value. Firing away trades without awareness of applicable fees can backfire by setting back your 401(k) balance even further. (See also: Watch Out for These 5 Sneaky 401K Fees)

6. Sell based on an objective reason

So far, we have discussed reasons why you should hold on to your stocks or even buy more. But there will be times that you will have a valid reason to sell your equities during a market downturn. Here are a few examples:

  • Tax loss harvesting: In a year that you're expecting a large tax liability, you could take a hit on realized losses on your investments and offset taxes on both gains and income.

  • Portfolio rebalancing: Balances on specific asset classes fluctuate over time as prices go up and own. So, it may be necessary to do a couple of trades to readjust your portfolio back to its original asset allocation.

  • Dramatic change in company policy: Let's imagine that you bought a stock purely because its board of directors had provided a dividend every quarter for the last 10 years. If the company's board were to suddenly do away with the dividend, would you still want to own it?

Just because the stock market goes up and down doesn't mean that you need to make a move. Stick to your original financial strategy and remember that stocks do outperform most types of investments in the long run. This may mean tuning out from the financial news for a while so it doesn't play into your fears. In the long term, you should do just fine. (See also: Want Your Investments to Do Better? Stop Watching the News)

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