The Planner's Perspective: The Downside of an Up Market
By Paul Morrone CFP®, CPA/PFS, MSA
Believe it or not, there are some bad things that can happen during good times. Everyone is happy when equity markets perform well. Rising stock prices are generally a reflection of favorable macroeconomic conditions, positive investor sentiment and strong corporate performance. While this is not the ‘what goes up must come down’ conversation, there are some negative consequences for those who deviate too far from their plan to make a quick buck. More concerning is that many of these decisions stem from emotion, confusion and misinformation as financial news (both good and bad) is shoved down our throats through word of mouth, TV, the internet and social media.
Long-term investors understand that the market goes up and the market goes down, but timing it is impossible. Irrational exuberance should not cause a well-disciplined individual to materially deviate from their long-term investment plan and strategic allocation. Hopefully some thought was put into designing a portfolio, meaning that it should have been implemented with a desired outcome in mind and based upon the best knowledge available at the time. Of course, as market, economic or personal factors change there may be valid reason to update the plan, but a hot equity market should generally not be the driving factor to dump the old plan in favor of a more concentrated or risky position.
An acronym made popular by the millennial generations perfectly sums up the mentality that plagues individual investors during a hot market. The fear of missing out, or FOMO for short, can lead individuals down a path which can materially alter their long-term plan unknowingly. Hearing news broadcasts, reading Facebook articles or taking advice from friends who have had a recent bout of success with their portfolio can lead some investors to make rash decisions and update their plan without thoughtful consideration and due diligence. Of course, these investors are also the first to sell out at the sight of any market volatility and are often the ones who don’t have the financial resources to recover from a major selloff.
Remembering what you own in your portfolio and why you have invested in those selected asset classes is key to drowning out the noise and remaining focused on the desired outcome of your investment plan. Chances are your portfolio has some level of diversification, which would immediately create performance differential between broad indices published on TV, in print or on your smartphone, such as the S&P 500 or DOW Jones Industrial Average. This may work to your benefit or detriment over a given time period depending upon the asset mix and the relative performance of each of the asset classes that you have exposure to in your portfolio. Keeping your sights focused on why you are investing rather than what you are investing in may help combat the impulsive desire to double down on something out of your comfort zone to make a quick buck.
There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk. No strategy assures success or protects against loss. Investing involves risk including loss of principal.