When markets are volatile, many investors become anxious about their investments and begin to question whether their investment strategy is really working for them.
Anxiety is a normal reaction when markets are falling but making investment decisions based on emotions is more often than not an unwise course of action. It can be tempting for inexperienced investors to pull out of the market altogether and wait on the sidelines until it seems safe to return. The risk here is that you could risk selling at the bottom of the market and buying when prices are high. And that’s a recipe for disaster.
It’s important to realise that share market volatility is inevitable. It’s the nature of the market to move upwards as well as downwards and while dramatic swings can be unsettling it’s wise to remain calm. Often, the most sensible thing to do during periods of extreme market volatility is to stick with the investment plan you already have in place.
A ‘do nothing’ approach might seem tough to swallow if you've been caught off-guard by recent volatility but remaining calm while others are losing their heads could be the most prudent course of action in the long term. In fact it's a good time to remember Warren Buffett's classic mantra: "Be fearful when others are greedy, and be greedy when others are fearful."
Warren Buffet is widely regarded as one of the world’s most successful investors. What he means by this statement is that when people are rushing to invest in a particular stock or asset class then it is wise to remain cautious. In other words when something looks too good to be true, it probably is. And conversely when the majority of people are reluctant to buy into the market then it may just be the right time to consider investing. The rationale behind this approach is that most retail investors base their investment decisions on their emotions, which is precisely the wrong thing to do.
The key to surviving turbulent times is to accept that volatility is a natural occurrence in the share market. Investors who get spooked by sharp market shifts and decide to sell when share prices dip effectively crystallise the loss – which up until the point of the transaction – was really a loss on paper only. Investors who panic and dump stocks when markets dip, forego the opportunity to participate in the rebound when markets recover. And this is where most inexperienced investors fail. They attempt to ‘time’ the market.
The most effective way to protect your investments is to ensure that your portfolio is broadly diversified and has the appropriate balance for your financial goals, time horizon, and tolerance towards risk.
Seasoned investors recognise that investing in the share market is a medium to long term proposition. They understand the importance of resisting the urge to modify their long term investment strategies when short term swings occur.
While many economists and share market commentators make a comfortable living from providing a day to day analysis of market movements and short term predictions, no one really knows what the future holds. Experienced investors learn to ignore the ‘noise’ of market commentary in the media and to approach market swings when they do occur with a cautious eye.
Providing your investment strategy remains consistent with your long term goals and objectives, you may find that ignoring short term swings is the best course of action. However should you have any issues or concerns, please contact your adviser.
Source: Capstone. Published: 14 September 2015