Ba de ya -- say do you remember?
Ba de ya -- dancing in September?
Ba de ya -- never was a cloudy day.
--Earth, Wind & Fire, "September"
There may not be any cloudy September days in this disco classic, but there have been plenty of them in the stock market. In fact, the Dow Jones Industrial Average's biggest nominal drop ever was a 778-point, 7% plunge on Sept. 29, 2008. Among the Dow's 20 biggest nominal losses, four occurred in September of various years. Three of its biggest percentage drops happened in September, too.
Columnist and investment newsletter ranker Mark Hulbert has noted: "Over the past century, September has been by far the worst month on the calendar for the Dow Jones Industrial Average, with an average loss of 0.8%. That contrasts with an average gain of 0.8% in the other 11 months."
Volatility is everywhere, and that's OK
Clearly, the month of September has been volatile. But every month has gains and losses over the years, and September saw gains in the S&P 500 in 2013, 2012, and 2010, for example. There's no definitive explanation for the September average, and it may well be due to chance.
And stocks can be volatile on their own, as well. Netflix, for example, more than tripled in 2010 and then plunged more than 60% in 2011 before roughly quadrupling in 2013. Harley-Davidson saw its shares fall by 32% in 2007 and by 61%, in 2008, only to surge by 51% and 39% in the following two years, respectively.
Volatility is a given in the stock market. So should risk-averse people steer clear? Not at all.
Here are three ways to deal with volatility.
1. Think about the long term
Over any short period, the stock market, or a particular stock, can rise or fall with little warning. A close look at a graph of the market's performance will reveal a jagged line. But take a few steps back, and you'll see that over the long run, the market has headed upward. So, too, have healthy, growing companies.
If you're invested in risky companies that you're "taking a flyer" on, you have cause to worry. But if you focus on great companies, buy them when they're undervalued, and hang on for many years, you'll probably do well. Remember the volatility of Netflix and Harley-Davidson above? Well, Netflix has averaged annual gains of 41% over the past decade, while Harley-Davidson has averaged only 2% over the past decade but an impressive 13% over the past 20 years.
2. Think opportunistically
Next, remember that there's a huge silver lining when the stock market plunges: It takes most companies' stocks with it, presenting many great buying opportunities. To best position yourself to benefit, consider keeping a modest portion of your portfolio in cash so that you have some dry gunpowder when the next great opportunity presents itself. Don't pressure yourself to take action until that opportunity comes, which could be this year or in five years. In the meantime, build a watch list of companies you'd love to own for the right price. Then, when the market downturn comes, you'll be ready to quickly identify attractive prices.
Some people think they can profit from volatility by market-timing, where you get in and out of the market based on whether you think it's heading up or down. One study by researchers at the University of Utah and Duke University tracked 15,000 predictions made by 237 market-timing newsletters between 1980 and 1992. Were many of them successful, helping their subscribers make money? Hardly. In fact, 94.5% of them were defunct by 1992. If you're thinking of trying it on your own, think again.
As index-fund pioneer John Bogle has quipped, "Sure, it'd be great to get out of stocks at the high and jump back in at the low, [but] in 55 years in the business, I not only have never met anybody who knew how to do it, I've never met anybody who had met anybody who knew how to do it."
3. Think rationally
Finally, be aware of your emotions and the power they can wield over your actions and your prosperity. When the market drops, it's because many people are selling out of fear -- and it's easy to follow the crowd and do the same. Similarly, when the market is surging, it seems natural to keep buying or holding on to shares of stocks that seem overvalued, simply because others are doing so. Greed and mob mentality are powerful influences.
If you can think for yourself, though, buying seemingly undervalued stocks and selling overvalued ones while maintaining a long-term focus, you can do very well. Don't let volatility frighten you and influence you. Embrace it, because it helps the smartest investors make more money.
Longtime Fool specialist Selena Maranjian, whom you can follow on Twitter, owns shares of Berkshire Hathaway and Netflix. The Motley Fool recommends and owns shares of Berkshire Hathaway and Netflix. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.