Did you know that if you were to spend 50 years of your life investing, you could expect to live through roughly 14 bear markets? That's according to Hartford Funds, which explains that bear markets may be painful while happening but, overall, end up impacting portfolios positively the majority of the time.
A bear market is declared when the closing price of a stock index drops by at least 20% from its most recent high, and while no two bear markets are exactly alike, here's what typically unfolds:
- Investor confidence drops, leading to panic selling and greater price declines.
- Corporate earnings shrink, reinforcing the downward trend in stock prices.
- Economic indicators weaken, including a slowdown in GDP growth and an increase in unemployment.
- Volatility increases, leaving many investors on edge.
If you're 40 when a bear market occurs, it may be uncomfortable, but the knowledge that you have another 25 years or so to recoup losses can reduce the pain. However, when you're retired and on a fixed income, a bear market may carry extra weight. Here, I will cover what you should know when the next bear market casts its shadow on your portfolio.
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It's not a crisis -- It's an Opportunity
Bear markets are a natural part of the economic cycle, as natural as the ebb and flow of the ocean. One of the hallmarks of a bear market is panic selling, which presents you with an excellent opportunity to pick up bargain-priced assets.
Returning to Hartford Funds' breakdown of bear markets throughout history, about 42% of the S&P 500's strongest showings in the past 20 years occurred during a bear market. Here's why: When you're in the middle of a bear market, it's difficult to predict when the market will recover. However, recovery is often underway before anyone realizes what's happening. In fact, another 36% of the market's best days occurred during the first two months of a bull market before it was clear a bull market was roaring back in.
In other words, viewing a bear market as an opportunity rather than a crisis reminds you to sit still while others panic and allow your portfolio to grow in step with the recovering economy.
A bear market slush fund can be a lifesaver
There's little doubt that you understand the importance of an emergency account to cover issues like a broken water heater or unexpected medical expenses. However, it's equally important to have another cache of money set aside specifically for use during bear markets.
Let's say your post-retirement budget allows you to withdraw $25,000 a year from your retirement account. Because your assets are less valuable during a bear market, you must sell more of them to come up with the $25,000, which leaves less money to purchase bargain-priced assets that can grow with the market as it recovers.
You don't need a fortune in your bear market slush fund. You just want to ensure you have enough to cover living expenses while the market is down (which may not be as intimidating as it sounds). Here's how you decide how much to put away:
Step 1: Review your monthly budget.
Step 2: Determine if there are any areas you can cut back on while the market recovers. That may mean eating out once a week instead of three times or postponing a planned weekend trip. It all depends on your particular budget. And remember, cuts don't have to be draconian. It's OK to trim your budget rather than slash it.
Step 3: Compare your new budget total to your guaranteed income. For example, if your monthly budget is $4,000 and your net income from sources like Social Security, a pension, annuity, or rental property totals $3,000, that means you need an extra $1,000 per month to pay bills.
Step 4: Determine the number of months you want to cover. The average bear market lasts around 11 months. If your goal is to ensure you have enough in the fund to cover all 11 months, you'd need $11,000.
Ideally, you'll build a bear market slush fund before retirement, but if you don't, it's not too late to begin putting a little away each month. Once you've exhausted the fund, consider ways to start rebuilding it in time for the next bear market.
An advisor can be one of your best investments
The last thing you may want to do in the middle of a bear market is spend money meeting with a financial or retirement advisor. However, it's never a bad idea to allow a professional fiduciary (someone who is legally obligated to look out for your best interests rather than their own) to review your short-term financial plan. They may identify gaps that need to be addressed or suggest ways to maximize the opportunities throughout the down market.
The ups and downs of the market are a way of life, but they can be unsettling when you're retired and living on a fixed income. However, preparation is everything. The first step is to acknowledge that bear markets will occur. The second is to plan for one like it's just around the corner.
