Source: Robert Balog.
Following six straight days of losses, U.S. stocks are up on Wednesday (though this could reverse before today's close). The Dow Jones Industrial Average (^DJI -0.11%) and the benchmark S&P 500 (^GSPC 0.02%) are up 2.12% and 2.06%, respectively at 1:55 p.m. EDT. Only last Monday, the S&P 500 closed above 2,100, less than 1.5% from the all-time closing high set in May.
One of the reasons the last few days have felt so jarring is that market participants had become accustomed to ultra-low volatility in stock prices. From the beginning of the year through mid-August, the S&P 500 traded in a range that was less than 120 points wide; daily gains never reached 2% (they still haven't), with only a single daily loss greater than (2%).
This extreme placidity in stock prices owed a lot to the Fed's coddling of asset markets through extraordinary policy measures, but volatility is the natural state of financial markets. It is the long period of calm that was anomalous -- not the "disturbance" of the last few days. Nevertheless, here are five recommendations that ought to help investors cope with what could be a change in market regime:
1. No one knows what the market will do next. Many people have an opinion on what will follow next (too many of them are paid to spout them), but there is not a single person out there who knows what the stock market will do in the short term (Remember: 12 months is the short term with regard to stock prices.) Not Berkshire Hathaway chief executive Warren Buffett (he's the first to say so), not Fed chair Janet Yellen, not the highest-paid strategist at Goldman Sachs. No one. Accept that fact if you haven't already and you'll be one step ahead.
2. Don't change investment tack in response to a "trading opinion." It's perfectly fine to have an opinion about what the market will do in the short term, as long as you understand that it's worth just as much as that of the first person you come cross on the street: zero. For an investor to overhaul a portfolio built to achieve long-term results in response to a short-term view on the market is completely inconsistent and counterproductive.
3. Accept that substantial declines from current levels are possible. Finance blogger Jesse Livermore performed an interesting exercise in which he examined the hypothetical future trajectory of the S&P 500 if it were to mimic some of history's great bear markets. He concludes:
I don't expect a correction commensurate with any of these scenarios to play out. Even a 20% correction would surprise me. But history teaches us that large downward price moves are, and always have been, real possibilities in a market, even when everyone has a story for why they are unlikely.
4. Keep saving, keep investing. Remain focused on the long term. The simplest, no-effort strategy of investing in low-cost index funds on a regular basis is also one of the best. Unless you are already independently wealthy, concentrate the bulk of your efforts on your career in order to increase (or maintain!) your earnings power.
5. Breathe and practice mindfulness. This is a serious recommendation. If you're worried about your portfolio, taking a series of deep breaths will lower your heart rate and start to quell that anxiety and will allow you to think more clearly.
