Stocks have entered a correction. As of this writing in late December, the Standard & Poor’s 500 index of large U.S. stocks is down about 18 percent from its September high.
The Russell 2000 index, which tracks small domestic stocks, fared even worse, declining 27 percent since September. That puts the small-cap index in bear market territory. A bear market is typically considered a drop of 20 percent or more.
In recent years, the terms “correction” and “crash” have been used synonymously. Corrections, downturns and bear markets are normal, albeit dismaying and even frightening. But these developments usually don’t constitute a full-blown crash. Investors are sensitive to the idea of a crash because we recall what was happening a decade ago.
I’m not denying that 2018 felt chaotic. For markets, it wasn’t just political discord but also the Federal Reserve’s rate increases and numerous predictions of an economic slowdown. Whatever the culprit, stocks might be down simply because it’s time: The bull market got underway in March 2009. That’s a long time to be in rally mode, regardless of what is going on in Washington.
Many clients have asked if we are in unprecedented, uncharted territory in the markets. That answer is a resounding “no.” It’s important to separate markets from Washington. Many elements other than politics play a role in stocks’ performance. Although it doesn’t always feel like it, the U.S. economy has been in an upward trajectory for several years.
Businesses have been hiring and consumers have been buying. Consumer confidence has been strong. This leads to solid sales and earnings performance from companies that make up the domestic stock markets.
But no market cycle lasts forever. If you are a long-term investor with a specific goal in mind, such as retiring or staying retired, a downturn is a perfect time to re-evaluate your strategy, or formulate an investment strategy if you’ve been winging it.
- Do you have a plan for your investments in a poor market? Investors need a strategy for weathering the storm. Perhaps it means adding to positions when stocks are trading lower. Unfortunately, many people react by selling and attempting to wait out the downturn in cash. That usually means locking in losses and making it more difficult to regain your former portfolio levels once the market reverses higher.
- Do you really know how much money you need in retirement, and what kind of investment return that will require? This is a very specific calculation, dependent upon your lifestyle spending needs, your time horizon and your various sources of income. You can derail your chances of a successful outcome by taking either too much risk in the market, or too little.
- Do you understand why you own every single investment in your portfolio? There are many different types of assets — domestic stocks, small stocks, international stocks, long-term bonds, high-yield bonds — and they all perform differently and serve a different purpose in an overall allocation.
A market downturn may seem like the time to avoid thinking about your investments. That can be a pretty good approach, if — and only if — you already have a plan in place and a proper investment mix designed to achieve your goals.
Let a market downturn work in your favor. You can take advantage of opportunities to sell losing or declining investments in taxable accounts, and avoid or decrease your capital-gains taxes. You can decide which winning investments to sell, if you have tax losses to offset those gains. You can scoop up more shares of existing investments at a lower price.
So is this the big correction? A bear market will arrive at some point, either now or later. But in the meantime, take this opportunity (at the beginning of a new year, no less) to clean up your portfolio and get it working for you.
