Tools to Handle Market Volatility

March 09, 2020
Tools to Handle Market Volatility

In the investment world, volatility refers to changes in securities prices. These fluctuations occur every single trading day. An investment or asset class is considered very volatile if its price moves up and down frequently, sometimes by very large amounts. Volatility can be measured by tracking the movement of an investment’s or asset class’s market price over a period of time.

Volatility is Part of Investing

A decline in the Dow Jones Industrial Average might be a little scary, but you have to look closely to what is going on. Sometimes you may see the index go down several points but if you look at it from a percentage standpoint it may not  be that significant.

Paper Losses Don’t Become Real Losses Until You Sell

While it’s certainly unsettling to see the value of your portfolio decline, it’s also important to remember that the decline is only a paper loss. It doesn’t become real until you decide to sell or redeem those securities.; If you hold on to them, they may be able to regain their value as markets move up.

Diversification is Key

While there is no guarantee, investing in a combination of stocks, bonds, and money market/stable value funds is a time-tested strategy for managing risk, and one that may even help improve returns over the long term. Diversification works under the principle that: when one asset class — stocks, for example — loses value, another asset class —  such as bonds or cash  —  may deliver positive returns that can help offset those losses.

Moreover, you can achieve an additional level of diversification by investing in subcategories within asset classes. Stocks, for example, have many different categories: domestic, international, large capitalization, medium capitalization, and small capitalization. There are also stock mutual funds that invest in specific sectors, such as health care and telecommunications. However, diversification does not ensure a profit and may not fully protect against losses in a declining market.

Dollar-Cost Average

With dollar-cost averaging, you invest a fixed amount of money regularly in shares of a stock or a mutual fund. When share prices fall and you continue your scheduled investments, you will buy more shares  essentially taking advantage of a “sale” on securities.

Cyclical Versus Defensive

Some industries are notably affected by economic highs and lows. Cyclical stocks are sensitive to the health of the economy and include industries such as housing, transportation, and technology. Consumer demand for these products and services tends to rise when the economy is thriving and decline when it experiences a downturn. Defensive stocks are less sensitive to the economic health and include industries such as utilities, food, and other staples where demand tends to be relatively steady even in an economic downturn. Investing in both cyclical and defensive stocks from different industries may further improve your portfolio’s diversification.

Focus on the Long Term

When the market is volatile and unsettled, it’s important to remember why you are investing. Your long-term investment goals may include retirement, buying a second home, or paying for your child’s college. Historically, long-term investors who have adhered to their strategy, stayed calm and remained invested have done better than those who let their emotions take over their actions and jump in and out of the market during declines. See the chart for what can happen when you miss the market’s best-performing months.

Missing Top-Performing Months in the Stock Market

Annualized Index Return / Potential Value of $1,000
30-Year Period (1988-2017) 20-Year Period (1998-2017) 10-Year Period (2008-2017)
Staying Invested 10.70% / $21,106 7.20% / $4,014 8.50% / $2,260
Missing Top 5 Months 8.91% / $12,933 4.77% / $2,538 3.77% / $1,448
Missing Top 10 Months 7.39% / $8,487 2.71% / $1,706 0.41% / $1,041
Missing Top 15 Months 6.03% / $5,789 0.93% / $1,203 -2.26% / $796
Missing Top 20 Months 4.78% / $4,059 -0.61% / $885 -4.42% / $637
This table summarizes the potential effects of missing top-performing months of the stock market, assuming investment performance mirrored the performance of the S&P 500.

Source: ChartSource®, DST Systems, Inc. Stocks are represented by Standard & Poor’s Composite Index of 500 stocks, an unmanaged index that is generally considered representative of the U.S. stock market. It is not possible to invest directly in an index. Past performance is not a guarantee of future results. ©2018, DST Systems, Inc. Reproduction in whole or in part is prohibited, except by permission. All rights reserved. Not responsible for any errors or omissions.
Investing in mutual funds involves risk, including loss of principal. Mutual funds are offered and sold by prospectus only. Before you invest, you should carefully consider the investment company’s investment objectives, risks, expenses, and charges. For more complete information about any mutual fund, including risks, charges and expenses, contact your financial professional to obtain a prospectus. The prospectus contains this and other information. Read it carefully before you invest.
You could lose money by investing in a money market mutual fund (Fund). Although a Fund seeks to preserve the value of your investment at $1.00 per share, it cannot guarantee it will do so. A Fund may impose a fee upon sale of your shares or may temporarily suspend your ability to sell shares if the Fund’s liquidity falls below required minimums because of market conditions or other factors. An investment in a Fund is not insured or guaranteed by the Federal Deposit Insurance Corporation (FDIC) or any other government agency. A Fund’s sponsor has no legal obligation to provide financial support to the Fund, and you should not expect that the sponsor will provide financial support to the Fund at any time.
Dollar-cost averaging involves regular, periodic investments in securities regardless of price levels. You should consider your financial ability to continue purchasing shares through periods of high and low prices. This plan does not assure a profit and does not protect against loss in any markets.
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© 2019 DST Systems, Inc. Reproduction in whole or in part prohibited, except by permission. All rights reserved. We are not responsible for any errors or omissions.
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Originally published on March 7, 2019