If this market is unnerving you as an investor but you know that the discipline of a
long-term investor would tell you to stay invested, what choices do you have?
If you are feeling a little unsettled about the stock market over the past few weeks, you are not alone. The ongoing changes in tariff policies announced by President Trump, along with the responses from other countries, have whipsawed financial markets around the world. The US stock market moved both up and down multiple times last week by about the same amount we expect it to return in an average year.
Let’s stay grounded in financial norms. The current volatility is a reaction to a highly unusual and uniquely executed trade policy, just as COVID was unusual and the inflation it caused was unusual. But the stock market’s reaction is not unusual. It will gyrate as it absorbs new data, it will assess risk, it will adjust prices based on that perceived risk, and it will eventually get back on a growth pattern.
In our most recent article, we promised we would “offer strategies to help you find value in a market downturn.” Based on the ongoing questions I am receiving from people in all areas of my life about the markets, I am reminded that most investors simply don’t know how to use a downturn to their benefit. The good news is that we do. Read on to discover some tangible steps for you to consider.
Resist the urge to “do something” to your asset allocation. In periods that feel out of control in any part of our lives, humans tend to try to exercise control. That commonly means taking some sort of action during times that seem uncertain. Reacting to markets – especially whipsawing markets – is not recommended by any seasoned investor that I know. Before you consider changing your asset allocation, you should consider what problem you are trying to solve and whether a change will actually solve that problem. If your plan has not changed, chances are that your asset allocation shouldn’t either.
Consider a Roth conversion. You have just completed your 2024 tax return, and hopefully you took the time to think about your 2025 tax strategy as well. If that strategy includes a Roth conversion (paying taxes now on traditional IRA funds to convert them to Roth IRA funds so they can grow tax-free), this might be a good time to do so. We normally execute Roth conversions for clients in the fourth quarter to make sure that we have all of the data about their tax situation for the year. However, for investors with a fairly predictable tax picture, it may make sense to execute while the market is down to convert more shares with the same number of dollars. We recommend that you consult a tax or financial advisor prior to finalizing a Roth conversion.
Harvest taxable losses. In non-retirement accounts, investors experience taxable transactions every year, usually in the form of dividends and capital gains. During market downturns, some of your assets may drop below your purchase price. For example, if you bought Apple stock in January, your shares are worth less now. This gives investors the opportunity to sell the asset and lock in a taxable loss. Again, there are many rules around harvesting losses in your portfolio, and we recommend that you only do this with the guidance of an advisor. This article from Fidelity includes details about tax loss harvesting, including how to avoid a wash sale, which occurs when you buy the same or a “substantially identical” security within 30 days.
Consider your cash. The most basic component of a financial plan is to maintain the proper cash reserves, which has two meanings. First, you should have ample reserves for normal spending and emergency expenses. If your income could be affected by a recession, either by owning a company or working at a company that is likely to be distressed by tariffs, you may consider increasing your cash holdings.
On the other end of the spectrum, some are asking whether they should buy the “dips” in the market. This is only prudent if you have “idle” cash (meaning it is not currently matched to another goal in your plan) and you already planned to put that cash to work for a long-term goal. If that is the case, buying into this market may make sense. It is impossible to time a volatile market, so a prudent strategy is to dollar cost average your cash by investing methodically over a period of time.
Do your future self a favor. If you are really unnerved by the volatility in the stock market, we still encourage you to stay invested at least until it recovers. In the meantime, write down how you are feeling and why you are feeling it. If you are awake in the middle of the night thinking about the stock market and the effect it may have on your ability to be successful with your financial goals, you may need to consider whether you should reduce your exposure to the stock market longer term. Once the market recovers and you are feeling good about your portfolio, you can review your notes from this period of volatility and determine whether you should reduce your exposure to the stock market so your future self doesn’t feel this stress again.
If you have to make a change, consider editing around the edges. In our next installment of our series on volatility, we will give you perspective on the history of significant market downturns and how they ended. Spoiler alert: the stock market goes up and to the right more often than not, which is why long-term investors benefit from staying invested. A well-constructed portfolio should have multiple diversified components which all serve a purpose. Some typical examples are growth, income, non-correlated returns, broad exposure, or some combination of these. The idea is to give you multiple ways to win, and the different asset classes become interdependent to perform well over time. If you feel you must make a change, consider the smallest change you can make to reduce your stress, as opposed to “going to cash” or exiting an entire sector of the market at once.
This is the third installment of our four-part series to help you focus on key elements of your investment portfolio through this time of volatility. We started by reviewing our five-step process to understand your portfolio (purpose, time horizon, expenses, taxes, and risk/reward potential). Last week we examined risk, the role it can play for you, and how we create a risk stack. We will wrap up the series with historical perspective about market volatility. If you have any questions you’d like us to address, you can send them to hello@bfsadvisorygroup.com. Please share this article with anyone in your life who would benefit from seeing it, whether they are a new or experienced investor. As always, our goal is to build confidence, and we know that a key component is education.