One Simple Letter Can Make The Bear Less Scary
Since the 2008 global financial crisis, the stock market has been on a tear. The S&P 500 has moved from 800 points to more than triple in value to over 2,400 points today. The Bull market we are currently experiencing will be heading into its 9th year, significantly longer than the average bull market. Although Bull markets don't die of old age, and the current one could continue for another 9 years, one fact is inevitable: a Bear market is coming at some point.
When the Bear does rear its head, your investment portfolio is likely to take a hit. You shouldn't, however, fear the Bear. Your portfolio dropping even 30% in value doesn't necessarily mean you've lost money. If you don't need the money and don't sell the investments during the downturn, you won't actually lose the money. A Bear just means you hit a minor detour on the path to your financial destination.
Those that react emotionally to the Bear, on the other hand, will see their investments derailed. Fear leads most investors to sell when their portfolio drops in value, locking in the losses and locking out the opportunity to get the future recovery. Your biggest worry about a Bear market is actually your fear of the Bear market.
A Letter to "Future You"
To defend against your own emotional mistake, write a letter to yourself. A letter to 'future you' who is dealing with the Bear. In your letter, remind yourself of your overall investment plan, of the timeframe of your goals, and of the history of past bear markets. Explain to yourself the following three things about your investing strategy to help make the Bear less scary.
Begin the letter with your investment strategy including your risk tolerance and your asset allocation. Explain to future you why you chose the investments you did, and remind yourself of why you think these investments are a good long-term bet.
If you can't easily and quickly explain your investment strategy as described above, it probably means you need to revisit how you are investing your money. Reviewing your investments with your financial planner, or finding a financial planner, can help with this.
If you have a financial planner, talk with them about your investment strategy. If after the conversation you still can't explain to yourself your investment strategy described above, then you may want to find another advisor.
Next, write down the goal you are investing for and the date when you need the money for that goal. Remind future you of the timeframe of your investments. Portfolios which could be significantly impacted by a Bear market should have long-term time frames of at least five years. If you are investing for your retirement in twenty years, it really doesn't matter how much your portfolio drops today, you only care where it will be in twenty years.
Invested money which is intended to be used in less than five years, however, should have much lower risk profiles. And anything you plan to spend this year should be in near-riskless U.S. Government securities or in Federally insured savings accounts.
Remind future you that you expected these dips along the way, even if the dips are large and scary like 2008. Also remind yourself that 2008 was irrelevant to younger investors who didn't need the money until after the crisis passed. Taking a peak at the chart in the next section can also help.
Close your letter to yourself with a reminder of what happened with the last major Bear market (and every Bear market prior). No, not the drop in the stock market. What happened after.
This is what the stock market looked like leading up to the 2008 financial crisis, which created the worst Bear market many investors have ever seen. Notice, however, what happened after that big scary dip in the beginning.
Remind yourself Bear markets are only actually scary if you sell your investments. If you rode out the 2008 drop, you would have recovered all your losses by the end of 2012.
And if you stayed invested until 2016, your investment increased more than 60% from it's original high before the 2008 credit crisis.
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Joshua Escalante Troesh is a tenured professor of Business at El Camino College and the founder of Purposeful Finance. His career provides him with a unique insight on personal financial, having been a VP at a financial institution leading up to 2008, and involved with technology and internet stock research leading up to 2000. He can be reached for comment at firstname.lastname@example.org