Periods of market volatility are certainly unnerving and can challenge your confidence. But when it seems like the markets are in crisis, it's important to maintain perspective and stay focused on the long term rather than reacting to short term events. The following principles can help you manage volatility and achieve your long-term investment goals.
Stay calm and invest on
When the markets are particularly volatile, there's a natural tendency for investors to move into safe investments, hoping to avoid further losses, and wait until the markets recover. But unfortunately it's nearly impossible to predict when the markets will recover. As a result, investors may miss out on the eventual recovery, which can negatively affect their long-term investment goals. As the chart (below) shows, the investor who stays invested tends to do better than the investor who bails out and misses even some of the recovery.
Avoid market timing
On a related note, some investors try to improve their returns by attempting to "time" the market - selling right before the markets go down, then buying right before they go up again. In theory, this sounds great. But in practice, it rarely works, simply because it's so difficult to predict when the markets will go up or down. Unfortunately, that doesn't stop investors from trying, which is why the "average investor" tends to under perform virtually every asset class.
Maintain your sense of perspective
Unquestionably, stock market downturns can be painful, especially when you're in the middle of one. It's not always easy, but it's important to remember that downturns have happened before - and will happen again - and that historically, as the table below shows, the markets have always recovered and reached new highs.
Reassess your comfort level with risk
It's one thing to say you are comfortable with a higher level of risk when the markets are only going up, and another thing when the markets are volatile. If you are finding it difficult to sleep at night because of market volatility, then it might be time to consider how much risk you are truly comfortable taking with your investments.
Diversifying your investments is a proven way to reduce market volatility. It involves including a certain mix of stocks, bonds and cash in your investment portfolio, as well as investments representing different industry sectors or geographic areas. At any given time, one type of investment may do better than another. So by diversifying between them, you can offset weaker performers with stronger performers, reducing volatility. What's more, as the table below shows, it can be difficult to determine exactly when one type of investment will do better than another, which is why it makes sense to stay diversified.
Look for opportunities
"Summer sale! Prices slashed!" when it's a retail store saying those words, it's usually a good thing. Yet when it's the stock markets, people often have the opposite reaction. When prices drop, they sell instead of buy. But when the stock markets go down, it can be fairly indiscriminate: both good and bad stocks can be caught up in the sell-off. What that means is, during a market downturn, there can be some high-quality stocks, likely to be among the first to bounce back, available at temporarily reduced prices.
How you diversify your portfolio between investments plays an important role in how much volatility you can expect. In general, if you include more stocks in your portfolio, you will experience greater volatility, but also greater long-term growth potential. Conversely, if you include more bonds, you will experience lower volatility, but also lower growth potential. Everyone has an ideal balance, based on factors such as:
- How long you have to invest
- How much growth you need
- How much risk you are willing to take
But over time, market fluctuations can cause the balance to shift in your portfolio, as one asset class outperforms another and eventually represents a greater percentage of your portfolio than you had originally intended. As a result, it makes sense to regularly rebalance your portfolio, to get back to your ideal balance.
Stay focused on the long term
Markets may go down in the short term, often in response to a global economic crisis, but over the longer term they tend to go up.
Put time on your side
In the short term, volatility can seem like a ride at Canada's Wonderland. But over time, volatility smooths out. And the longer you have to invest, the more it tends to smooth out.
Review your portfolio
Have questions about your investments? Should you make any changes given the recently volatility? We would be happy to review your investments with you to ensure your portfolio is right for you.
Your investment team
This information is not investment advice and should be used only in conjunction with a discussion with your RBC Dominion Securities Inc. Investment Advisor. This will ensure that your own circumstances have been considered properly and that action is taken on the latest available information. The information contained herein has been obtained from sources believed to be reliable at the time obtained but neither RBC Dominion Securities Inc. nor its employees, agents, or information suppliers can guarantee its accuracy or completeness. This report is not and under no circumstances is to be construed as an offer to sell or the solicitation of an offer to buy any securities. This report is furnished on the basis and understanding that neither RBC Dominion Securities Inc. nor its employees, agents, or information suppliers is to be under any responsibility or liability whatsoever in respect thereof. The inventories of RBC Dominion Securities Inc. may from time to time include securities mentioned herein. RBC Dominion Securities Inc.* and Royal Bank of Canada are separate corporate entities which are affiliated. *Member-Canadian Investor Protection Fund. RBC Dominion Securities Inc. is a member company of RBC Wealth Management, a business segment of Royal Bank of Canada. ® / TM Trademark(s) of Royal Bank of Canada. Used under licence. © RBC Dominion Securities Inc. 2019. All rights