How to invest in a sky-high market!Submitted by Korhorn Financial Group, Inc. on July 18th, 2019
By Mike Bernard, CFP®
On Monday, the Dow, the S&P 500, and the Nasdaq Composite all closed at new record highs. It’s great news for anyone with money in stocks. But as the markets continue to reach for the sky, many investors are wondering what to do next.
For some, today’s highs seem like the perfect time to “take the money and run” to avoid the next downturn. Others see it as the ideal time to increase their investments to take advantage of the current momentum as we head toward the next new record… and the next.
Who’s right? The answer is anything but simple.
I happened to be on the phone with my friend Bill when I saw the latest market alert flash across my computer screen. When I mentioned that the market had once again hit an all-time high, Bill was less than impressed. “I don’t see much difference in my portfolio no matter what’s happening. My daughter is another story, but she’s going to be in big trouble when the market crashes again.”
Now Bill is a smart guy with a very successful career in his rear-view mirror. He left the corporate world almost a decade ago, and he saved and invested well to prepare for a long, comfortable retirement. Even if he lives to be 110, it’s unlikely he’ll outlive his assets. And yet his outlook on the market is a great illustration of what many people get wrong about investing.
First, Bill is assuming that the current market high is temporary. I can’t blame him. It’s human nature to think that market gains are fleeting. But human nature isn’t always right. Did you know that bear markets are actually more rare—and more brief—than bull markets? Since World War II, the average bear market has lasted about 14 months, while the average bull market has lasted about 4.5 years. In other words, on average, a diversified stock portfolio is growing 4x more often than it is shrinking. And though there have certainly been market dips, the stock market has delivered an average 10% return annually over the last century.
Second, Bill might be overlooking what “the market” actually is. When you invest in stocks, you are investing in the world’s greatest enterprises. By the nature of the capital markets, those enterprises will expand and grow over time. It’s inevitable. Will there by downturns? Certainly. Will some enterprises fail? Absolutely. That’s precisely why your decisions about how to invest today should be based not on the current state of “the market,” but instead on your investment profile and long-term financial plan, including your investment objectives, your risk tolerance, and your time horizon. To invest wisely—even in a sky-high market—ask yourself these three questions:
- What are my investment objectives?
Like many retirees, Bill has a single objective: financial stability. Because he is willing to forego growth in exchange for the confidence that his assets will remain pretty steady for the rest of his life, he is invested in a mix of stocks, bonds, and cash. His daughter, on the other hand, is focused on financial growth. In her early 50s, she loves market downturns because they give her the opportunity to buy stocks at discount prices. She is invested primarily in global growth stocks. Bill’s approach fits his investment objective of short-term stability. His daughter’s approach fits her objective of long-term growth. Both approaches are “right” because they fit the individual investor.
- What is my risk tolerance?
Knowing your tolerance for risk is about much more than the state of your stomach when the market drops—or leaps. The bigger question is how you will react when those ups and downs occur. If a large market swing (think 2008) is enough to compel you to pull your assets out of the market rather than staying invested until better days, you will be better off with a more conservative strategy that keeps you in your comfort zone. On the other hand, if you’re able to keep your eyes on the end-goal and continue to invest when prices are lower, you can take a more aggressive approach. The more risk you take, the greater your potential returns, but that only works if you have the tolerance to stay invested!
- What is my time horizon?
Once you’ve established your risk tolerance, the next question to ask is how much time you have before you actually need to spend your assets. In other words, when do you need to touch your money? Often overlooked, this may be the most important question of all—especially when investing in a market that has been riding so high for so long, and at a time when so many baby boomers on the verge of retirement. The reason: aligning your plan with your time horizon can help you avoid having to sell during a downturn. An easy way to do this is to divide your assets into short-term, medium-term, and long-term buckets. For money that you need within the next 4 years, keeping 3 months of living expenses in a cash emergency fund and the rest in short-term bond funds or institutional funds can help you stay one step ahead of the rate of inflation with little or no risk. For money that you need 5 to 8 years down the road, investing in diversified mutual funds and ETFs, institutional funds, and emerging markets can help you outpace inflation while aiming for slightly higher growth at slightly greater risk. And for money that you won’t need for 8 years or more, you can (and probably should!) invest for the greatest potential growth by including a large dose of diversified US and international stocks into the mix.
Bill might be worried that his daughter will be in trouble when the market takes a turn, but I disagree. In the big picture, even a full-fledged bear market shouldn’t change her long-term outcome. As long as she is invested for the short, medium, and long terms, and as long as she is working toward her investment objectives and paying attention to her risk tolerance, she should be right where she needs to be when it’s time for her own retirement.
Investing in a sky-high market can feel risky. How can you “buy low and sell high” when everything seems to be flying?! But remember this: what drives today’s highs and tomorrow’s lows is temporary. Politics. Interest rates. Corporate earnings. Investor emotions. None of these will be the same by the time most of us need to touch our investment portfolios. Until then, keep your eyes on the road ahead and maintain a smart, diversified portfolio that’s designed for you. And if you need guidance to help plan, protect, and preserve your assets along the way, please reach out. We’re always here to help!