How To Financially Prepare For A Market Downturn
While the masses are cheering the new, glorious economic era that Donald Trump is ushering in, many of us in the world of finance aren’t quite sure. What is everyone basing their hope on? It sure isn’t a balanced federal budget!
Trump’s Power Over The Economy
A lot of people seem to think Trump is a reincarnated Reagan. His plan of tax cuts, infrastructure spending, and deregulation sure look like Reagan, even if his hair doesn’t. But he’s in a different world than Reagan was, one that won’t be as easily swayed by his economic moves.
Did you know that when Reagan came into office, the deficit was only 1% of GDP, but now it’s 3.5% – 5%? And the national debt was only 32% of GDP then, while now it is a whopping 106%?¹
My lack of faith in President Trump as our economic savior isn’t personal, it’s structural. Our country is so bogged down by debt right now that anything he does will barely move the needle.
Market Cycles
In addition to these problems, many economic optimists are ignoring the basic truths of the markets. Simply put: markets move in cycles. That means ups and downs, not just ups. Like with gravity, what goes up must come down. Luckily, finance isn’t as balanced as gravity, and markets go up more often than down.
Right now we are experiencing the second longest bull market in US history. A year ago we moved into that position when we overtook the post-World War II bull market.² This can’t continue forever.
The longest bull market in history lasted about 13 years, ending in the implosion of the dot-com bubble at the turn of the century. I don’t know about you, but I don’t want to go through that again. In fact, for me, the “tech wreck” of 2000 was particularly acute because I was working at Dell Computers in Austin, TX, at the time. It was pretty much the second “tech hub” outside of silicon valley, so Austin got hit hard.
All politics aside, the simple facts of the way market cycles work don’t bode well for the glorious new economic era that everyone is touting. Call me a party pooper, but everything I see is pointing towards a market downturn sometime in the near future.
How To Prepare For The Inevitable Downturn
So, now that I’ve pulled your heads out of the clouds, what should you do? What moves can you make now to avoid spending your golden years greeting customers at Walmart?
Accept Reality
Before we even touch your portfolio, we need to make sure your head is in the right place. First, you need to come to terms with the fact that there will be a downturn coming at some time or another. It’s simply impossible for things to always go up. Accept this fact of life so that it won’t crush and disillusion you when it comes.
Second, realize that it’s only temporary and if you prepare for it, you don’t have to fear it. When things start to head south, ignore the media. The hype and drama will drive many to make stupid decisions. Don’t be one of them. Just ignore them all.
Plan Ahead
So many people lose big during downturns because they let their emotions take over. You need to try to keep your money as far away from your emotions as possible. I’ve written many articles about this “softer side of money”, also called Behavioral Finance, here. Why are the wedding and baby industries so profitable? Because emotional people don’t make rational decisions with their money. Come up with a plan right now, while you’re thinking rationally, and stick to it despite your emotions. You’ll be glad you did.
Obey The Five-Year Rule
A common rule of thumb in investing is that if you’ll need the money within 5 years, it shouldn’t be in the stock market. This is even more important when a downturn may be on the horizon. There’s a good chance you will lose money, at least initially. Make sure you won’t have to pull money out in the middle of the bear market and cement those losses. If you can’t keep it there long enough for it to recover, don’t invest it in the stock market. A short-term, high quality bond fund would would be more appropriate if you need the money in less than 5 years.
Avoid Passive “Set-it-and-Forget-it” Investing
Passive investing is all the rage these days because, well, most people like the easy route. We want what is easy and fast and we don’t want to have to exert any effort to get it. While the markets are thriving, you can get away with passive investing and not do any rebalancing. But when things turn, you’ll be locked into risky investments and full of regret.
Passive means that you don’t have to think about it. When did you ever accomplish anything great without having to think about it? When it comes to something as important as your financial future, you don’t want to be passive. You want to be strategic and decisive. This requires careful thought and planning, not a passive, “set-it-and-forget-it” approach.
Consider Your Personal Risk
With a market downturn likely in the forecast, you need to reassess your risk levels and investment methods. At Pathway Financial, we ascribe to evidence-based investing, which is based on academic research and real science. We use it because we know it works to mitigate risk and build wealth smarter. Evidence-based investing is what will carry you through the next downturn and help you come out way ahead of your friends.
Are you curious to know how much risk is in your portfolio, before the downtown hits? If you haven’t rebalanced (trimmed your winners) you may be shocked with how much risk your portfolio has amassed given the stock market boom of late.
Are You Ready For A Market Downturn?
Now let’s turn the spotlight on you. How is your portfolio invested? How much risk does it carry? Does your risk tolerance change when you think about a market downturn?
If you haven’t taken the time to consider your risk level and how it will impact your portfolio during a market downturn, now is the time. Don’t wait until it is too late. I really hate saying, “I told you so.”
Find out your personal risk level right now, in less than 2 minutes.
If what you learn scares you, thank your lucky stars that you still have time to do something about it!
What Should You Do When Your Investments Are Head-To-Head With Recession Volatility?
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