During the past nine years, investors have watched their portfolios grow steadily thanks to the bull market, which, according to MacKenzie Investments, has seen the S&P 500 increase as much as 335 per cent. However, the party will end eventually – and some say not everyone will be ready when the bottom falls out.
As a recent survey from Natixis Investment Managers showed, 64 per cent of U.S. advisers say they do not believe investors are prepared for a market downturn. More than 80 per cent of those surveyed believe the prolonged bull market has made investors complacent about risk, which could lead to decisions driven by emotion and panic when volatility strikes.
So, how do you make sure you’ll be able to sleep at night when more challenging conditions show up? As Toronto-based financial planner Joe Barbieri says, “stress-testing” your portfolio should be an ongoing process. “Whatever [life]stage they’re at, I’ll ask, ‘if you lost part of this, how would you react? Could you handle it?’”
Here’s how to prepare your own investment safety drill:
Head Space: Barbieri says it’s important to perform some “expectation management” with respect to market downturns so there is a plan of action when it arises.
Risk on/off: As Robyn Graham, portfolio manager and certified financial planner with ETF Capital Management says, investors should ask themselves the following questions:
- How would you feel if your portfolio declined by a certain dollar amount?
- Would you abandon your investment strategy or see it as an opportunity?
- Would you be comfortable knowing your asset allocation is appropriate?
- How long could you tolerate a decline in your portfolio value before looking to make changes?
But the best test of true risk tolerance, she adds, is how someone reacts during periods of actual volatility. To gauge this, look to your own behaviour in past market corrections.
“In the ninth year of a bull market, some investors have developed unrealistic expectations about what the equity market can deliver over the longer term. They also tend to overestimate their own risk tolerance. Investors should look to the 2008/2009 market correction. Were they in a panic then? Were they selling or buying? Have they noticed markets have been more volatile in 2018? How are they reacting to this change?”
Graham says it isn’t a good idea to make changes in the middle of a volatility event. “The time to make changes is in a regularly scheduled review, or sooner if a major change in circumstances warrants a review of their investment goals and objectives.”
Build Your Buffer Zone: It’s difficult to ‘bulletproof’ a portfolio in an artificially low interest rate environment, especially on the fixed income side, says Diane Dekanic, a certified financial planner with Financial Health Management in Calgary, but there are certain steps investors can take in order to avoid too much fluctuation. One suggestion is to look at preferred shares, she says, or hold a few balanced mutual funds from multiple providers.
“Balanced funds almost micromanage in the background, in terms of moving from the equity position to a fixed income because, though balanced gives us the impression of this 50/50 portfolio, that is not necessarily the case of what’s inside of it. It could be 20/80, 80/20, anything else you can imagine,” she says.
Remain confident: Ultimately, says Dekanic, for those with a well-diversified global portfolio, being too concerned about the impact of day-to-day market fluctuations is unproductive. She recommends investors boost their understanding of how investments work and how they respond to different conditions and take a long-term view —only look at charts that show at least five or ten years of performance data, rather than days or weeks.
Indeed, as Graham says, “the greatest peace of mind comes from having the right investment program in the context of a fully thought-out financial plan. Knowing our investment portfolio is on track to achieving our life goals is ultimately far more important than what the market is doing.”