Nervous about a stock slide? Cut your risks
Hold that thought.
I’m talking about the angst you may have felt just a few weeks ago, as the news was full of problems in Greece and China and the stock market was plunging. If you were like many people, you worried about a stock market meltdown — one you couldn’t bear if it ended up like the one that ravaged 401(k)s, IRAs and college savings amid the recession and financial crisis of 2008.
With emotions still raw from 2008, people wondered if they should sell everything. My email was busy with people asking if they should duck for safety. Financial advisers were getting calls too. In notes to clients, they promised that Greece wouldn’t hurt investors because it was a small country, and China was going to keep growing fast despite the plunging stock market.
Those notes were a little too simplistic. They underestimated the mess Greece could transmit to Europe and banks if financial problems snowballed to other countries. Furthermore, the assurances on China seemed to flow way too easily from financial advisers a long, long distance from China’s economy.
China’s government is secretive about the state of the economy, and even analysts who have spent a lot of time there come away without clarity about the world’s second-largest economy.
The storm has passed for Greece. It received a bailout, but longer term issues are expected to surface again. So do you relax now, or dump all your stocks because problems could arise again?
Instead, think about whether you were ready to run for the hills last month. If you were, you might be taking too many chances with your money. But that’s not because of the outcome of Greece or China. It’s because you were sailing along feeling fine until early July, and then all of a sudden news on Greece and China made you feel queasy.
Those incidents demonstrate that nasty surprises can surface suddenly for the stock market. So here’s what you can do. Consider what would happen to your money if one of the stock market’s inevitable surprises comes along and whacks your 401(k) or retirement money. Could you survive it? And if you could, perhaps you can be calmer even with scary news. If you are too exposed and can’t survive a mess, make changes now.
For example, if you have a giant chunk of your money in a China stock fund, consider cutting it back. Financial planners often suggest making specialized investments — like betting on China — with only about 5 percent of your money.
Too often individuals go with all or nothing — either all-in the stock market or bail out completely. There’s a better way: Hedge your bets. Hold some stock funds and bonds at all times, and sprinkle spice — if you are so inclined — with bets like China.
Diverse mixtures of stocks and bonds will save you even if you aren’t clever enough to spot the next crisis.
Consider the cautious approach a person might have taken with stocks and bonds before the 2008 financial crisis. If the person was feeling cozy before the crisis hit but divided a $10,000 investment half in stock funds and half in 10-year U.S. Treasury bonds, the money would have been battered in the market crash, but not destroyed. By the worst point in the downturn, only $8,379 of the original $10,000 would have been left, and the person might have been panicked. But then came the healing. In 14 months, the person was back to even with slightly over $10,000 again, and now has about $16,730, according to Morningstar.
Contrast the conservative approach with the person who plops everything into stocks and hopes he can figure out when to bail or stick it out. A $10,000 investment totally in the stock market in the financial crisis would have melted to $4,980 at the worst point — a lot worse than the $8,379 from the more conservative stock and bond mixture.
Eventually, the stock market healed, but it took a long time and a lot of nerve. By March 2012, the risky investor was back to even. Now, that person has $16,000. That has to be reassuring. But the easiest way to proceed if you might be upset by a sharp downturn is to ratchet back your risks before the scary moments arrive.
Gail MarksJarvis is a personal finance columnist for the Chicago Tribune and author of “Saving for Retirement Without Living Like a Pauper or Winning the Lottery.”