A long bull market may have skewed your investment strategy
It’s very easy to fall into a trap when assessing your personal investment risk tolerance during a bull market. Many who strive to reach financial independence have little experience in the market in a bear market, as the most recent bull market started in 2009.
As of April 25, 2022, the S&P 500 is down over 11% year-to-date. Many investors question their investment strategies and wonder if they have introduced too much risk into their portfolios.
While selling in a down market is a bad idea, taking stock of your true risk tolerance is a great idea. Are you losing sleep at night, stressing about your future?
Anyone serious about reaching financial independence, especially at a young age, has to find comfort with some risk in their investments.
Your savings rate and return on that savings over time are key to reaching financial freedom. The compounding effect of money invested is what will set you free.
The current market conditions are not contributing positively to the compounding effect on your money. If you stare at the charts long enough, you might be second-guessing your decisions on your portfolio composition.
Here are a few truths about investing that we all need to remember, especially when the markets are down.
Over time, markets tend to rise in value.
The S&P 500 has historically returned over 10% since 1957. This isn’t a constant return, though. There have been some very poor-performing periods throughout history.
It’s easy to lose sight of the fact that markets do have down periods when you’ve benefited from a bear market for years on end. Winning feels good, and when you win long enough, you start to feel like you cannot lose. Unfortunately, markets do lose, and it can make your stomach spin in circles.
Individual stocks can go to zero.
You might have made an excellent investment in an individual stock that has been on a meteoric rise. A stock like this can really boost your portfolio. That same stock can also go to zero.
I’m not implying that you should never invest in individual stocks, but there is inherently more risk in this type of investment than in an Index Fund, like VTSAX, which is comprised of over 4,000 companies. The diversity provided by a low-cost Index Fund can help you sleep at night.
You are probably investing beyond your true risk tolerance if you are stressed.
It feels so awesome to invest money and watch it balloon. That feeling over a long period of time can also make you feel like you can’t lose. You might even feel like taking more risks to ramp up your net worth growth. Only when your investments sharply decline do you begin to realize that you may have been taking more risks than you should have.
Declining investments are a sour pill. Take stock of the moment and remember how these declines make you feel. If you can shake the losses off and move on with life, you are investing within your risk tolerance. Know that you have a future goal and that the noise of today is of little concern compared to your plans.
On the other hand, if you are feeling very stressed by the declines in your investments, you need to assess them and prepare to make changes. Your investments should not cause you significant stress when your goal is financial independence.
The common goal in the FI community is to remove the stresses related to money. It takes mental strength to weather the ups and downs of investing. If you let either get to your head, your financial journey will not bring you the peace you seek.
If you feel like selling in a down market, you are probably investing beyond your true risk tolerance.
When the markets are down, selling can significantly impact your march to financial independence. Investors who retained their investments and continued to invest throughout the 2008 recession reaped significant gains over the long haul. Others who sold when the markets were down missed out on one of the greatest market runs in history.
Your investment portfolio should be composed in such a way that you can take a big dip and turn the other cheek. Sure, the current market performance may be more impactful if you are nearing your FI goal or recently retired. And it doesn’t feel good for anyone, but if you are stressed to the point that you want to sell now, you should reassess your overall strategy going forward.
We live in uncertain times. Our investments are not always going to provide amazing returns. Take this downturn in the market to heart, honestly assess your risk tolerance, and adjust as appropriate.
The goal of financial independence is to reduce the stress of money. Remember that and take it to heart.
This article is for informational purposes only. It should not be considered Financial or Legal Advice. Not all information will be accurate. Consult a financial professional before making any major financial decisions.
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