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How Should You Respond To The Stock Market's Latest Low?

Seth Jentner06/07/2012

With the stock market’s recent declines over the last couple of weeks, nervous investors may be tempted to move their investment portfolio out of stocks and into perceived safe havens, such as cash, bonds or treasurys. However, we believe that prudent investors include both stocks and bonds in their investment portfolios.

There is a reward for investing in stocks but also a risk that must be borne to reap that reward. Over the last couple of weeks, investors have experienced that risk, just as they did in every downturn over the past 200 years.

Here are a few reasons to retain stocks as part of a well-diversified portfolio:

  1. Since 1970, whenever the stock market has fallen by 7% or more in one month, subsequent returns were strong. The average gain for the S&P 500 stock index in the subsequent year was 11.7%. The average annual gain over the next three years was 11.8%. Small U.S. stocks did even better.
  2. The U.S. Treasury market is, at best, a temporary holding place. Money will flow back to stocks once risk appetites improve. When interest rates increase, bond values will decline.
  3. By every measure, such as past earnings, reported earnings and projected future earnings, stocks in the U.S. and other developed markets are very cheap. They may get cheaper still, but when they have hit these levels in the past it was the time to buy, not sell.

If you are nervous, it’s possible your portfolio risk and your risk tolerance are mismatched. If so, a change should be made in your investment allocation. However, now is not the time to make that change. It should be done when the inevitable recovery is underway.

Remember Warren Buffett’s comment:  “Be fearful when others are greedy and greedy when others are fearful.”  Talk to your professional advisor.  Let them know how you feel.  Work with them to find the appropriate blend of portfolio risk and return that will enable you to remain invested through future bad—and good—markets.

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