Fear can be a very useful emotion. It helps us avoid dangerous situations in many areas of life. But when it comes to investing, more often than not, fear works against us.
The idea of losing money strikes fear into the heart of even the steeliest investor. As a result, most people react and end up making investment decisions that are usually not in their best interests. And during times of market turmoil and volatility, fear-motivated decisions are really put on display.
Running scared
According to data from the Hewitt 401(k) Index, investors pulled over $765 million from equity funds within their 401(k) plan during the month of August. Plan participants moved money into fixed income investments 70% of the days in August, compared to July when investors moved money from fixed income to equities in 62% of the days.
While investors shifted the most money away from company stocks, international equity funds were a close second, losing $165 million in August, versus gaining $200 million in July. Likewise, investors moved $163 million out of large-cap equity funds and $140 million out of small-cap funds during August. In contrast, guaranteed investment contracts and stable value funds saw the greatest monthly inflows, as investors added more than $620 million to these investments. Bond funds and money market funds took in an additional $195 million during August. In general, participants seemed to be seeking the relative safety of fixed income investments in response to the turmoil in the equity markets.
After all, August was a rough month for many stocks. Tenet Healthcare (NYSE:THC) fell 35% during the month on news of a larger than expected second-quarter loss. Likewise, Countrywide Financial (NYSE:CFC) and Centex (NYSE:CTX) were hit by subprime market troubles and lost 30% and 23%, respectively. Market turmoil and uncertainty make investors nervous, and more often than not, investors' first response is to flee equity investments.
Going against the grain
While this reaction is completely understandable, investors are really shooting themselves in the foot.
Most people normally wait until stocks have fallen before they start selling, and that doesn't make sense. By selling after a decline, you are just locking in your losses. Similarly, most investors wait until the market shows signs of stabilizing before jumping back in. This is also counterproductive. If you wait until the market goes back up before committing your money, you've already missed a big part of the bounce.
Most investors are like lemmings. They simply move in the same direction as everyone else, which usually happens to be the path of least resistance. During market booms, they rush into equities, and during periods of instability, they rush for the exits as soon as the going gets tough.
Don't be a lemming. Stay strong during market downturns and stay cautious when market euphoria takes over.
Long-term thinking
The most important thing to remember about retirement investing is that you are in this for the long haul. Even if you are in your 50s, your retirement savings may have to last you 30 or 40 years. That's a long time to ride out market bumps. And younger investors have even longer to build up their retirement portfolio.
You don't have to watch the market closely each and every day and adjust your portfolio accordingly. Long-term investors should keep a significant allocation to equity securities, so don't try to move in and out of the market when the going gets rough.
Keep your focus on the long-term, and tune out the day-to-day noise of temporary market gyrations. That way, you'll have a much greater chance of reaching your retirement goals. And the future will be nothing to be afraid of.
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