The stock market has not had a correction since 2011. In the last few days, we have seen volatility in the market that some haven’t seen before. But let’s first understand what a correction is. Basically a market correction occurs when the underlying index or stock drops by more than 10 percent.
Is this necessarily a bad thing? No, as we know in life things don’t always go our way and the stock market is no different. In recent history, the market correction of 1987 is considered one of the worst in the last 30 years. When the market corrected in 1987 it dropped 508 points, which was a decline of the Dow Jones Industrial Average by 22 percent. In 2010, the Dow Jones Industrial Average dropped 998.5 points — about 9 percent — during the day, but recovered most by the close of the market.
Investors need to remember the Dow Jones Industrial Average only represents 30 large company stocks. The Standard and Poor 500 is a better view of the market since it reflects 500 of the largest stocks in various sectors of the market. If we use this as a gauge, the S&P 500 index a year after a market correction went up 16 percent in 1988 and up 15 percent in 2012. This is no guarantee the markets always go up, but history shows long-term investing does work.
An investor needs to ask himself a few questions. First, what type of investor am I? Long term or short term? If you are a long- term investor, then tune out the short-term noise. While the market makes no guarantees, we have seen by staying invested for the long term the market has made investors money.
If you’re a short term investor, the volatility may be a great place to buy good stocks at a lower prices. When the overall market goes into correction mode, logic at times get thrown out the window. Good stocks get put in the basket with bad stocks and everything goes down. The media can also make the situation worse as we saw stocks drop over ,1000 points, bounce back 700 points and then close down 500 points and every minute was reported on TV and the Internet. We have seen big upswings and downswings since that point and even more hype of what the markets are doing daily or should I say, minute by minute. As I am writing this article on Wednesday, the market opened up over 400 points and closed up 621 with dramatic swings throughout the day. I’m not saying the stock market is going to stay this way, but with uncertainty in the world markets and what the Federal Reserve is going to do with interest rates, it has the market on edge.
So how do you handle the volatility of investing in today’s market? When I am meeting with a client for the first time, we cover several areas about themselves and the money they are investing. At the core of our first discussion is the client’s time horizon, what type of volatility they can tolerate and what the goal of the money they are investing is. While these few questions shouldn’t generate a long conversation, individuals who are not my clients did not know the answers to some or all of these questions when they started calling our office for advice
Here are three things to do if you are uncomfortable with the stock market.
— First, review your mutual funds or stocks and make sure they align with your time horizon and your investment risk. If not, contact your financial advisor and re-set your investments and goals
— Second, check your mutual funds for duplication. You may own several mutual funds which have many of the same top holdings and could lead to increased volatility in your portfolio or 401k retirement plan.
— Finally, avoid knee-jerk or emotional decisions. As we saw on the opening of the 1,000-point drop, retail or everyday investors sold and the institutional investor or money managers including myself were buying the quality investments that we like for the long term.
Remember, markets will go up and down and at times those swings can be large. Stay focused on your goals, own quality investments, understand what you hold and why, and review your investments with your financial advisers at least yearly if not quarterly.
Darek Hunt is an investment advisor with Aurora Strategic Advisors.