Here Are Three Things You Can Do After Historic Stock Market Volatility

This past week has literally been one for the record books. On Christmas Eve, the Dow Jones Industrial Average fell by 653 points. It was down by 2 percent and incredibly, all 30 stocks fell. All 30 of them! It didn't matter what you owned, it went down.

It’s extraordinarily rare for stocks to fall on Christmas Eve, particularly to the degree that they did. Usually, investors want to go into Christmas in a good mood. But this year, investors were bah humbugs.

Of course, the stock market was closed on Christmas. And on the day after Christmas, the Dow shot up 1,000 points! The Dow skyrocketed with a 5 percent gain and it was the exact mirror opposite of Christmas Eve.

The day before Christmas, all 30 Dow stocks fell. On the day after, all 30 of those stocks rose. That day was the best for the stock market in 10 years. It was, in fact, the best day ever following Christmas, in stock market history.

While you were putting the finishing touches on Christmas, and the Dow was falling 653 points, did you sell? Did you sell while the market was low only to discover that it skyrocketed the next day?

The day after the holiday, the Dow Jones Industrial Average, S&P 500 and NASDAQ all gained at least 4 percent. That's the first time that's happened since 2011. It was astonishing.

Amid all the volatility in the markets, the economy seems to be doing just fine. There's not a lot of economic justification to support the ridiculous volatility of the market right now. Here are a few examples of recent economic data:

  • Retail sales climbed 5 percent over last year.
  • Consumers spent $850 billion in just the last five weeks.
  • This is the strongest holiday shopping season in six years.
  • Insider buying is at the highest level since 2011.
  • The Global Purchasing Manager Index is at 52.
  • S&P 500 profits are growing 12 percent this year.

Corporations are making a huge amount of money. Based on the economic data, in 2019 the profits from the companies in the S&P 500 could hit a record. And even though corporate America is making more money than ever, the price-to-earnings ratio is now 9 percent less than it has been on average since 2009. In other words, stocks are cheap relative to the profits that companies are earning. This is a complete conundrum when you look at the performance of the markets.

What’s even more perplexing is that for the first 11 months of the year, net inflows to mutual funds and exchange-traded funds were 62 percent less than they were a year ago. This is according to data from the Investment Company Institute. They track the flows of the entire mutual fund and exchange-traded fund world.

In other words, last year when the stock market was doing fine, investors were happy to add money to the market. But in 2018, with the stock market doing poorly, investors have been putting in far less money. It’s perplexing because last year, stock prices were higher. It’s as if some investors would rather buy when prices are high and sit it out, or even sell when prices are low.

Do you really want to buy high and sell low?

So, what can you do considering the recent and historic market volatility? There are three things we do in the management of our own assets.

The first is diversification. We don't know what's going to happen next. Because of that, we don't want to make any bets. So, we don’t try to predict whether stocks or bonds are going to make money. We don’t make predictions on real estate, precious metals, commodities, foreign securities or government securities. We simply invest in all of them. In fact, instead of trying to choose a stock, we own a basket of all the stocks. We try to buy as many stocks as possible. We do this across countries, asset classes and market sectors.

With diversification, we don’t care what happens tomorrow, next month or even next year. And here's why

If you invest a dollar, how much money can you lose? Only that dollar because you can’t lose more than 100 percent. But, how much can you gain? It's unlimited! The dollar can become $2, $3, $4, $8, $16. The gains can grow to an unlimited level and that's the point.

The second thing we do is focus on the long term. Instead of getting fixated on what happened in 2017 or focusing intently on what you wonder will happen in 2019, let's go out to 2029, let's go out to 2039, or even 2049. There’s a good chance that you're going to be alive in 2029, 2039 or 2049. That’s why you need to pay attention to the long-tenure results of the market.

Do you believe that in 20 years, the stock market will be higher than it is today? If so, you should be able to invest today with a high degree of confidence. But make no mistake, between now and then, it’s likely the market will fall. But in the long run, it won't matter. And that's why we maintain a very long-term focus.

The third thing we do is rebalancing. This is because prices will fluctuate like they have recently. This can often result in one asset rising faster than another. One asset might even fall sharply. We rebalance the portfolio to retain asset allocation and diversification. This way, you don't end up with too much money, and consequently too much risk, in a given asset.

If you don't know how to rebalance your portfolio, if you don't know how to maintain a balanced and long-term focus, or if you don't know how to build a diversified portfolio, that's why you hire a financial advisor. We can do the chore for you and take the drudgery out of it. That's what 83,000 families have done with Edelman Financial Engines. They've hired us to do this for them and we're happy to do it for you, too. Do it yourself or hire someone to do it. But make sure it gets done.

An index is a portfolio of specific securities (common examples are the S&P, DJIA, NASDAQ), the performance of which is often used as a benchmark in judging the relative performance of certain asset classes. Indexes are unmanaged portfolios and investors cannot invest directly in an index. Past performance does not guarantee future results.

Investing strategies, such as asset allocation, diversification, or rebalancing, do not assure or guarantee better performance and cannot eliminate the risk of investment losses. There are no guarantees that a portfolio employing these or any other strategy will outperform a portfolio that does not engage in such strategies. Funds and ETFs are subject to risk, including loss of principal. All investments have inherent risks. There can be no assurance that the investment strategy proposed will obtain its goal. Past performance does not guarantee future results.

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