What Does This Wild Market Ride Teach Us?
David Christianson, CFP, R.F.P., TEP
It has been quite a month on the investment markets, with this week cranking up the volatility.
Bonds and blood pressures were up, while stocks and investor spirits were down. Well, not all investor spirits.
I have spoken to a number of professional money managers this week and several amateur investors who have a long-term horizon for their investments. The moods of these people range from cautious optimism to outright glee at the bargains they see in the market.
All of them acknowledge that the stocks which appear to be on sale now at great prices may get even cheaper in the weeks or months ahead. However, they see periods of fear and pessimism like this week providing the kinds of opportunities that only come along a few times in their careers.
Value style and contrarian investors (who invest in things that no one else wants due to an overreaction to bad news), thrive in these environments. As Dan Bubis, one of Canada’s most successful and consistent money managers, told a group of us after Monday’s market freefall, “Fearful times like these create pricing imbalances in the marketplace, which provide opportunities. On the other hand, when everyone is optimistic and greed is fuelling the market, there are few bargains.”
Then he excused himself to run back to his office and shop for bargain stocks where his team believes the decline is transitory, rather than permanent.
If you drop in to Brandes Investment Partners in San Diego, one of the most successful value managers in the world since 1974, you’ll find analysts who are beside themselves with excitement. They think the next two or three years may be their best ever.
Now, I’m not a Pollyanna, and I could go on for two columns about the problems with the US economy, its mountain of debt, US consumers reaching the limit of their real estate-backed lines of credit, the lack of real political or financial leadership, the greed and stupidity of the US financial industry, and even the possibility that the US Federal Reserve panicked this week in cutting rates three quarters of a percent.
But I think it’s more helpful to focus on what you and I can do now to make sure we still reach our personal goals.
Number one is to look at your time horizon. Over the last 14 years of writing this column, I have said over 40 times that you do not put short-term money into the stock markets. Stocks and equity mutual funds go down as well as up. A minimum of three to five years is needed as your time horizon, in order to give these prices time to recover from market drops.
Every year, we exhort our clients to estimate how much extra cash they will need from their portfolios over the next one to two years, and we withdraw it and put in guaranteed, short-term investments like money market funds, treasury bills and high interest accounts. Then we know the funds are always available, and stocks seldom have to be sold at the wrong time.
If stocks are up when the money is needed, then these can also be used, subject to tax considerations. Right now, you have to look at your personal situation, and see if you’ll need to withdraw money from your long-term investments for personal needs over the next two years, and put as much of that money aside as you can, now.
If you are still saving and investing, then you’re in luck. We should all be happy this major correction happened before “RRSP season” and not after. Whether you are making your 2007 contribution by the February 29 deadline or starting on your 2008 contribution, you have to be happier to be buying stocks and equity mutual funds now than at the prices last June or last October. For my part, I will be making an extra 2008 contribution this month, to take advantage of the market conditions.
If your time horizon is appropriate, these may actually be good times. With a concerted effort, the excesses and problems in the US economy will be largely fixed before you retire and need your money.
However, many of my readers are retired now. Hopefully, you folks have had some of your portfolios in bonds and guaranteed investments, as we have always counselled. Sit down now and make sure you have the next two years’ of spending set aside in these types of vehicles, in case the recovery takes that long.
If you are really brave and your situation allows it, it’s actually time to rebalance, by taking profits from bonds and adding to your shrunken stock allocation. That’s what strategic asset allocation and rebalancing is all about.
If it feels really scary, then the time is likely right. I am not saying it will pay off in the next few months. Rather, I am saying that if that is your investment strategy, then stick to it.
As my friend and advisor David Luke would say, “Trust the process.”
* * *
This article originally appeared in the Winnipeg Free Press on Friday, January 25, 2008.
David Christianson is a fee-only financial planner and investment counsel with Wellington West Total Wealth Management Inc. His column, ‘Dollars & Sense’ appears Fridays in the Winnipeg Free Press.