These are the times that try investors’ souls.
Bail out? Buy more? “It’s wrong to make an investing decision in response to sudden changes in the market,” warns Harold Evensky, a financial planner in Coral Gables, Fla.
Instead, financial experts say you should view recent stock-market gyrations as a wakeup call, and take the time to review your holdings and reassess your strategy. Start by asking yourself seven questions:
– How much have I really lost? Sit down and figure out how much your investments have shrunk. You are likely to find that your portfolio hasn’t sustained much damage. During the wild mid-July ride, for example, a $20,000 stash invested in the stocks of the Dow Jones industrial average would have dropped less than $500.
But if you’re alarmed by how much money you have given up, forget about dollars and think in percentages. If your stock portfolio had behaved like the Dow industrials, you would have lost a little more than 2 percent during the two-day drop in July.
– How exposed to stocks am I? Most investors don’t own only stocks. Instead, they hold a broad collection of securities, including stocks, bonds and cash equivalents, like money market funds and Treasury bills. Even if stocks plunged 20 percent, that drop wouldn’t put much of a dent in your portfolio if you have only a quarter of your money invested in stocks.
Moreover, if stocks fall significantly, your other investments may provide offsetting gains. Chicago researchers Ibbotson Associates looked at the 529 rolling 12-month periods between 1950 and 1994, starting with the 12 months ended in December 1950, then looking at the 12 months ended in January 1951, and so on.
The firm found that someone who held an equal mix of stocks and bonds would have lost 5 percent or more in just 6 percent of these 12-month stretches. By contrast, an investor who was wholly invested in stocks would have suffered a loss of 5 percent or more in 14 percent of the 529 periods.
– Should I sell? If you plan to tap your savings in five years or less, you shouldn’t make a big bet on the stock market-now or at any other time. Though the stock market delivers healthy gains over the long haul, stock investors can suffer double-digit losses with frightening speed.
“People who think they’ll need to use their savings to, say, pay for a child’s college tuition bills or buy a home in a few years should sell their stock and put their savings some place more conservative, like in certificates of deposit,” Evensky says.
In addition, if you think you’ll sell in a panic if the stock market falls, experts say you might as well sell now, rather than risk locking in your losses later at a lower price.
But don’t bail out with the idea of buying back later when the market is a lot cheaper. While such market timing is a tempting strategy, it’s rarely successful.
– What are the costs of bailing out? There are plenty, so look before you leap. A growing number of mutual funds have “back-end loads,” or sales charges that you pay when you redeem your shares. Such loads can be as high as 5 percent for investors who stay in the fund for less than a year.
With individual stocks, you’ll have to fork over a brokerage commission when you sell. You’ll also bear the brunt of the spread between the higher price demanded by sellers and the lower price offered by buyers. This spread is particularly wide with small stocks, notes Gerald Perritt, editor of the Mutual Fund Letter, a Chicago newsletter.
– If I sold, where would I go? To earn the inflation-beating returns needed to fund your retirement or pay for other long-term goals, there’s no substitute for the stock market. Indeed, alternative investments look pretty grim right now.
Tempted to flee to the safety of a money fund or a CD? With yields hovering around 5 percent and 6 percent, don’t delude yourself into thinking it’s a viable long-run strategy.
There is one good alternative, however. If you’ve piled up debt on a credit card with an 18 percent rate, you might be better off using some of your investment dollars to pay down that debt. After all, you aren’t likely to find an investment with a comparable rate of return-even in the stock market.
– Do I own too much technology? Technology stocks rocketed this year, before being pulled back to earth in July. You don’t have any money in technology? Look again.
Even if you haven’t bought a single technology fund or computer stock, your portfolio could be overweighted in this area. On average, growth mutual funds have about 18 percent of their holdings in technology, while small-company and aggressive-growth funds have put almost a third of their assets into the sector.
If your fund was up much more than 10 percent for the second quarter, that’s a pretty good sign it may be heavily invested in technology.
Having some exposure to technology is clearly a good idea, especially if you’re a growth-oriented investor. But Ken Gregory, editor of the No-Load Fund Analyst, an Orinda, Calif., newsletter, says that if you look through your stocks and stock funds and find that more than 30 percent of your stock portfolio is invested in technology, you may want to lighten up, even if you are an aggressive investor.
– Should I put money abroad? If your stock portfolio has notched up fat gains in 1995, that probably means two things. One, you hold a lot of technology stocks. And two, you’ve steered well clear of foreign markets, many of which have struggled this year.
But if the U.S. market takes a tumble, a healthy supply of foreign stocks could help carry you through the storm.
A well-balanced portfolio should have anywhere from 20 percent to 50 percent of its holdings in foreign stocks, Gregory argues.
