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So far, 2016 hasn’t been a banner year for the stock market or for folks investing for retirement. The Dow had its worst 10-day start to a year since 1897. The Nasdaq and S&P 500 didn’t fare much better.
If you’re investing for retirement, this probably isn’t news to you, and we feel your pain. Market declines are tough for anyone who’s building wealth for the future. You want your money to grow, not dwindle!
In the midst of a volatile market, it’s easy to get caught up in waves of emotion. Anger, fear, sadness, worry and especially panic can cause you to make serious and costly mistakes. To be a successful investor, it’s important to know how to deal with the emotional side of investing so you can avoid these mistakes—and avoid losing thousands of dollars.
John’s $20,000 Roller-Coaster Ride
Take John for example. In the last six months of 2015 his $150,000 retirement account balance jumped by 10%—$12,000 from October to November alone! That was great news for John, who at age 55 needs to build up his nest egg if he’s going to enjoy a secure retirement. He was excited to see what 2016 would hold.
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But the market took a turn in the new year. In the first eight days of January, the S&P dropped by about 4.5%, and another 3% a week later. By mid-February, it was at its lowest point since April 2014, closing down 11.9% from the end of 2015. That drop wiped out all of John’s gains and cut the value of his investments by nearly $20,000.
Naturally, John began to panic. What if the market continues to tank? I can’t afford another $20,000 hit next month! To keep from losing any more of his savings, he sold off his mutual funds and moved the cash into a money market account to ride out the storm.
The wait wasn’t long. By April 1, the S&P 500 had risen 12.5%. That would have restored nearly all of John’s losses. But he wasn’t convinced that the recovery was real, so he kept his money on the sidelines and missed out on a nearly $18,000 gain.
Where John and Millions of Others Went Wrong
John’s mistake is one millions of investors make every year, Erik Sorenson, an investing Endorsed Local Provider in Denver, CO, said. That’s why he teaches his clients how to deal with market volatility before they even start investing. Here’s the advice he’d give John to help him avoid the same mistakes in the future.
1. Don’t Bail on Your Investments
When John’s retirement balance began dropping, his knee-jerk reaction was to protect the money he still had by getting rid of his “risky” mutual fund investments and moving his money to something “safe,” until the market stabilized.
But it’s impossible to predict the market’s future, Erik explains. When investors try to time the market this way, they end up losing more money than if they’d left their investments to ride out the roller coaster.
“If you miss some of the better up days in a volatile market, that's going to significantly hinder your investment performance,” Erik explained.
According to Fidelity Investments, if an investor missed the best five investment days between January 1, 1980, and March 31, 2015, they would’ve missed out on roughly $200,000, based on the hypothetical growth of $10,000. Those losses doubled to $400,000 if they missed out on the best 30 days.
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John forgot that retirement investing is a 20-, 30-, or 40-year process. “Like Dave says, it's not an overnight success where you buy the best stock and are rich the next day. You really need to approach it as a long-term process,” Erik said.
Don’t focus on day-to-day or month-to-month losses. Hang on to your mutual funds through rough markets. When they rebound, you’ll be grateful you did.
2. Keep Investing—Especially When the Market Is Down
No one likes losing money. But Erik (and Dave) always tells investors to keep investing money—even if the market is dropping. It seems counterintuitive, right?
Here’s why that’s good advice: When the market drops, your mutual fund shares are basically on sale. A down market is the time to buy—not sell. "If you saw a TV for sale a month ago for $300, and it's on sale for $270 right now, you should probably go buy that,” says Erik.
And, that’s not all. Historically, the stock market has always recovered its losses. Sometimes in a day. Sometimes in a week. Sometimes in a month or over several months. But it always has. And when the market does go back up so will the value of your mutual funds.
When (Not If) This Happens Again …
Maybe you noticed that Erik’s advice is to help John avoid these same mistakes in the future. John will almost certainly deal with volatile stock markets again. And while he can’t go back and change the way he handled this round of uncertainty, he can do a better job sticking to his investing plan the next time it happens.
To help him keep his perspective—and his investments on track—John can begin working with an investing advisor like Erik who will make sure John is prepared for the next market swing. John’s advisor will also make sure John is doing all he can to build up his nest egg and help him decide when he’ll be able to retire.