Recession fears have investors worried about a bear market and how it might affect their retirement accounts. There's no good way to avoid stock market volatility completely. But there are steps you can take to optimize your savings rate and position your retirement account for long-term growth. Here are three:
1. Stay focused on the long term
For many investors, the best retirement savings plans are the same whether it's a bear market or a bull market. Stocks experience cycles that include inevitable downturns, but these have always been temporary diversions from an overall upward trend.
Your retirement investment strategy should be designed with these facts in mind. It generally doesn't make sense to adjust it based on conditions that were already anticipated.
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Younger investors should focus on maximizing their savings rate and prioritizing long-term growth. It's usually a good idea to take full advantage of an employer 401(k) match, if that's offered in your benefits package. Even if the stock market dips after you contribute to your retirement account, the net gains from the employer match are almost always greater than the losses sustained.
Regardless of market conditions, households should strive to save 15% to 20% of total income, which they can then allocate to retirement funds, real estate, securities, or other assets.
It's practically impossible to tell when the stock market will bottom out, so any plan that revolves around market timing probably isn't a wise one. During a bear market, stocks become cheaper, allowing long-term investors to buy them at a discount. This is especially true for growth stocks, which tend to get crushed in market corrections and charge higher during bullish periods.
In this regard, bear markets are actually the best time for younger investors to build a growth portfolio. Equities might fall even further, but a market correction shifts the long-term balance of risk and reward in the buyer's favor. That's great for people building a Roth IRA, because they'll be able to take advantage of tax benefits on the gains in that account.
Even during its worst stretches in history, the stock market has delivered positive returns over a 15- to 20-year window. If you have a long enough time horizon, you can be confident that the bear market will eventually turn back into recovery and growth as the global economy chugs along.
2. Hold low-volatility assets
Bear markets are temporary, but they don't affect everyone the same way. Older investors need to be more careful with risk exposure as they approach retirement. People in their 50s and 60s might not have enough time for the stock market to recover before they start selling assets to cover cash needs.
This is exactly why people usually rotate toward lower-volatility assets as their time horizon gets shorter. In most cases, people start to replace some stock exposure with bonds in their retirement account. Bond prices tend to vary less wildly than stocks, and they usually produce short-term returns in the form of interest income.
Investors can also use cash or certain cash-value insurance products to fill these roles, though the strategies are sometimes more complicated or less cost-effective.This has become even more popular lately with interest rates at their highest level in years.
It's important to avoid panic in this case, too. Even after you stop working, it's a good idea to maintain some exposure to stocks in your retirement account. Growth is still important for ensuring the availability of cash, potentially decades in the future. A bear market is often a bad time to sell stocks, so avoid locking in losses unless your portfolio is poorly suited to manage upcoming volatility. Instead, take difficult market conditions as a reminder to review the asset allocation in your retirement account.
3. Buy dividend stocks
Dividend stocks can be a healthy addition to either of the two strategies above. Dividend payers combine some favorable characteristics of other asset classes. Like bonds, they provide short-term returns as income that isn't dependent on market conditions. Like other equities, dividend stocks tend to outperform other asset classes over the long term.
Good dividend stocks also provide higher growth potential than most low-risk bonds. These companies also tend to lose less value than growth stocks during bear markets. That will help with capital preservation through rough patches. Of course, the inverse is important in both cases: Dividend stocks tend to be more volatile than bonds, and they won't keep up with growth stocks during good market conditions. There's no perfect asset, so we have to understand the trade-offs here.
This makes them a good compromise for risk-averse investors who don't want to sacrifice too much upside. Consider adding dividend stocks to your retirement account, regardless of your age. If you own index funds in your IRA or 401(k), you probably already own some of the largest dividend-paying companies. If you want to increase exposure to these equities, look for ETFs and mutual funds that focus on this market segment.
