After a successful investment year has just passed, I wanted to remind everyone that every year will not be so strong. In fact, nearly 30% of the time historically the U.S. stock market has declined for the calendar year.
So while the “oceans are calm”, I wanted to remind everyone to start their preparations for the next “storm”. I have included below a post that I wrote in 2012 and that was featured in a Wall Street Journal article in May 2013. The theme is preparing for the next financial market turmoil. Click on the check mark to read:
As you plan for your future, you should design an investment portfolio that will capture the long-term benefits provided by the financial markets. These benefits are achieved through owning the broad market allocation through time with the understanding that in any short term there will be uncertainty. This uncertainty will be reflected in the marketplace with price swings and price declines.
Successful long-term investors understand the premiums that they will earn over the long term are the result of enduring these commonplace declines and periods of uncertainty. All plans should have an understanding that this will always be the case.
Investors can help themselves stay disciplined and patient with their plans by working with a competent financial advisor who can help them to stay focused on their long-term goals. The plan should include what they will do during times of market turmoil.
Some preparations for the next market decline include having adequate cash reserve and having established target allocations for each invested asset allocation. When the market swings cause the allocations to deviate from these targets, the portfolio will be re-balanced on a set schedule – not on a market forecast.
So if you developed a plan using long-term historic averages and the plan requires that 35% of the money be invested in bonds, then the portfolio would be reviewed at set intervals to ensure the target is close to this allocation. If the target allocation is not being met, then allocations that are above their targets are sold to free cash for investing additional money in the under-targeted allocation.
The example that I often use is the allocation percentage target is like drawing a white line on a stick in a bucket of water. Periodically, we review the water level to determine if water needs to be added or subtracted to get the water level back to the level of the white mark. No forecast for rain is necessary as we use actual water levels at the time of the review.
So remember a well-designed plan and its associated investment portfolio should account for the short-term uncertainties of the markets. The stock markets do not always remain as positive and calm as the attached photo.
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