The last year has been one for the record books, and the stock market has experienced an incredible run. In fact, over the past 12 months, the S&P 500 has earned returns of nearly 50%.
However, the market can't continue its upward trajectory forever. Some experts believe a market crash is on the horizon, perhaps even this year.
While nobody knows when, exactly, the market will experience a downturn (or just how significant that downturn will be), it will happen eventually. Here's why I'm not losing sleep over it.
Market crashes are more common than you may think
When your life savings are tied up in the stock market, it's normal to worry about how a crash will affect your money.
Market downturns are relatively common, however. Since 1928, there have been 21 separate occasions where the S&P 500 has fallen by more than 20%, according to data from Wall Street analytics firm Yardeni Research. That means that, on average, there's a stock market decline of at least 20% every 4.5 years.
The good news, though, is that in every single one of those crashes, the market was able to recover. Even after the S&P 500 lost more than one-third of its value at the beginning of the COVID-19 pandemic, it bounced back and has been shattering records ever since.
Nobody can prevent market crashes, and it can be extremely difficult to avoid them. If you try to time the market by selling your investments just before stock prices drop, you're likely to get burned. For those reasons, the best thing you can do is simply ride out the storm.
Protecting your money
While you may not be able to stop a market crash, there are a few things you can do to keep your money as safe as possible.
- Diversify your investments: Diversifying your investments means spreading your money across a variety of stocks from multiple industries. In other words, don't put all your eggs in one basket. An easy way to diversify is to invest in mutual funds or ETFs, which contain dozens or even hundreds of different stocks.
- Stay focused on the long term: If the market does crash in the near future, try your best not to panic. Instead, remember that it's extremely likely the market will recover if given enough time. If you leave your investments alone, they will likely bounce back.
- Think about your investing timeline: If you're close to retirement and expect to start withdrawing money from the stock market soon, now is a good time to think about your asset allocation. The older you get, the more conservative your portfolio should be (meaning you should start investing more in bonds and less in stocks). If you plan to retire in the next year or two and 90% of your portfolio is comprised of stocks, a market crash could wreak havoc on your financial situation.
Most importantly, make sure you're choosing the right investments that are more likely to withstand market volatility. If you're new to investing, an S&P 500 ETF may be your best bet. This type of fund mirrors the S&P 500 itself, and because the S&P 500 has always recovered from market crashes, your ETF likely will as well.
If you prefer to invest in individual stocks, be sure you've done your homework. Strong companies are more likely to survive market crashes, so it's important that all your investments have solid business fundamentals.
Market crashes can be scary, but they are normal. They're also temporary, and by investing wisely and staying in it for the long haul, it's very likely you'll make it through to the other side.