Why the Dow's Drop Hasn't Terrified Investors

Often, the stock market plunges without warning. But today, we've seen an example of how the plunges you do expect don't always pan out the way you'd think. Even though last night's failed fiscal-cliff vote sent stock futures tumbling and raised concerns about even bigger losses when trading resumed this morning, the reality hasn't been nearly as bad as many had feared. As we head into the final hour of trading, the Dow Jones Industrials (DJINDICES: ^DJI  ) are indeed off substantially, but even a 143-point drop is well off the day's lows.

Given that we're no closer to seeing a resolution to the nation's immediate fiscal problems, it's downright amazing that investors seem so calm. Admittedly, volatility levels in the market have gone up, with the CBOE Volatility Index (VOLATILITYINDICES: ^VIX  ) rising 5% and the volatility-tracking exchange-traded product iPath S&P 500 VIX ST ETN (NYSEMKT: VXX  ) soaring 6% on the day. But we haven't seen wild swings throughout the day, and volatility levels are still well below where they were in May, let alone the even still-higher levels that have largely prevailed since 2008.

One possible reason for the calm is simply that right before the holiday, fewer investors are paying attention to the market. But on a more optimistic note, I think many mainstream investors who have largely missed the bull market since 2009 have been looking for good entry points to put their money to work in stocks. Because the strategy of buying on dips has worked well recently, investors have been trained to look for weakness as a good time to invest.

Moreover, cracks in the bond market's supremacy have begun to show, with municipal bonds especially having shown signs of weakness. The iShares S&P Nat'l AMT-Free Muni ETF (NYSEMKT: MUB  ) traded below its net asset value earlier this week for the first time since midyear, as fears that tax law changes could eliminate tax breaks for muni interest roiled the market. That led to an exodus of assets from muni-bond funds, and when investors shift away from bonds, stocks tend to benefit greatly.

Be smart about risk
Market drops happen from time to time, and they shouldn't terrify you. Being indifferent toward risk is never a good idea, but being confident in your ability to overcome it will serve you well in finding the investment returns you want for your portfolio.

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