When market is in turmoil, fight the urge to react
When global stock markets hit a rough patch, like we’ve been seeing, there’s a natural tendency to do something and to do it fast. It is a basic human instinct and one that we all to a greater or lesser extent have.
Plenty anecdotal evidence exists confirming that an investor’s natural reaction is to sell after bad news (when the market is already down) and buy when news is good (after the market is already up). In other words, sell low and buy high.
The first thing to do is acknowledge that we need to fight this tendency to do the wrong thing at the wrong time, so here are a few things to keep in mind:
1. Remember the “why”
Almost every time you make a rash decision based on past market performance, it’s a mistake. Investment decisions should be made based on your goals and not the market. Make changes when your goals change, and ignore the market.
2. Incorporate new information slowly
Of course, you learn things during market corrections, and what you learn may change your goals. During the huge decline of the credit crunch in 2008-9, many of us learned what risk really meant. Before that, risk was an abstract concept, but it became very real then. That experience might have changed your goals. That would be a reason to make a change to your investments. But even then, be patient. The time to think about going for a swim is not when you’re already in a life raft. Wait until things settle down and you can think rationally about the next course of action.
3. “Have you seen what the market is doing?”
This is often what people say when they are in a state of shock and ready to go to cash “until things clear up.” Notice the implication that the market is “doing” something. The reality is that all we know is what the market has already done. We have no real idea of what it will be doing tomorrow or next week.
4. Jumping out of the frying pan and into the fire
Going to cash until things clear up does not reduce stress. When you sell, because you feel the market is going to fall further, you have a new problem: when to get back in. Unless you decided that your new plan does not involve exposure to the stock market, you now have to decide when to re-enter the market. The most common “plan” is to buy back in when things have “cleared up,” whatever that means. If that’s your plan, stop and take the time to define what the world will look like when things have cleared up.
Will the news be better or worse than today? Will the economy look better or worse? What will the BBC’s Robert Peston be saying?
Now think about this for a second, do you think the market will be higher or lower when things have cleared up? Of course, the market will be higher when things clear up. So now what we’re talking about is a plan to sell low (now!) and buy high (later!) on purpose.
5. Good diversification is crucial
By having a broad mix of very low risk assets (green) and high risk assets (orange) it gives a good chance that when your shares fall, your lower risk assets strengthen offering valuable protection.
6. If you have a plan, stick with it.
You would never plant a tree and then dig it up every time the wind blows to see how the roots are doing.
7. Don’t worry in silence
If you are at all anxious we are only a phone call away.
Lastly, none of what I’ve outlined is easy. It’s hard to stick to a plan when everything is screaming at you to abandon ship. I’m also not saying that the market will stop going down. But if you have carefully considered your investment decisions in the context of your life and goals, with a clear understanding of the risks you take when you invest in the stock market (no excuses here since we just lived through the best example of risk in decades), then now is the time to stick to the plan.