Are You Ready for A Market Downturn?

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Don’t be alarmed by the title. We do not attempt to, nor could we, predict the short-term or even mid-term direction of the market. But History 101 would tell us that a downturn of some kind will eventually happen; and considering that the current bull market is the longest in history, now is as good a time as any to be sure we are prepared.

Preparation does not include keeping most or all of your money in cash. Again, we are not market timers, but keeping too much money in cash erodes its value over time due to inflation. Think about what your parents spent on a gallon of milk, a car, or even a house 25 years ago. That will give you a good idea of what happens to your purchasing power if you try to buy the same amount of goods and services today compared to what it would have purchased then. Therefore, parking all of your money in a savings account earning little to no interest or hiding it under the mattress are not good options. For money you might need in the short-term, maybe. Otherwise, there must be a better avenue to prepare for an eventual downturn.

Preparation also does not include panicking. Panicking causes investors to make costly investment decisions at the worst possible times. If investors pull out of the market altogether, not only do those decisions cause losses when the market is near a bottom, but then they lose out on the recovery and rally that has historically followed every bear market. The S&P 500 Index dropped roughly 50% during 2007-2009; however, afterwards from its low, the index has gained over 400% and counting. Selling off without a strategy can also cause tax consequences if the transaction incurs short-term gains to be taxed at higher rates than if left to be categorized as long-term capital gains. There are times and situations where it is warranted, but as always, we would recommend you consult your CPA for the best tax advice.

Complacency is the opposite of preparation. It is an enemy of our success when we allow it to keep us paralyzed and non-proactive. Ron Chernow correlates complacency with our finances when he says “You don’t want too much fear in a market, because people will be blinded to some very good buying opportunities. You don’t want too much complacency because people will be blinded to some risk.” Not doing anything and hoping things will work out when it comes to our financial future is not preparation.

 PLANNING is the best preparation! And that is exactly what we do as fee-only fiduciary financial planners. We learn about your values, life story and future goals to help you make wise financial life decisions that allow you to feel more confident in your financial future. Are you overexposed to overvalued areas of the market? Are you diversified among different sectors of the market? Do you have an appropriate blend of U.S. verses international equity and fixed investments? What about large growth stocks/funds vs small value stocks/funds? Do you have too high a percentage of your portfolio concentrated in the stock of your employer? Are you managing the correlations between investments in your portfolio? At Bridge Financial Planning, we help determine what asset classes, allocation ranges and risk profiles are acceptable for your specific needs, risk level and time horizon. We guide you in developing a strategy that you are comfortable with to weather the ups and downs of the market.

How long has it been since you stress-tested the entirety of your financial holdings? We use this tool to illustrate what a downturn in the market could do to your portfolio. This gives insight to tailoring a plan that brings peace of mind with the uncertainties of life. One needs to take reasonable steps to mitigate the effects of a downturn while maintaining enough of an equity mix to negate a loss of purchasing power in the long run and meet long term goals. And that looks different for each individual person and/or family as they plan for their future and strategize to meet their unique goals. But the key is planning and preparation.

So what is your plan and how will you navigate the volatility and unpredictability of the market? We can build a comprehensive plan and investment strategy that connect your goals for tomorrow with today. As fee-only financial planners, you can be confident that you will receive professional advice as well as planning and investment management services that are flexible to meet your needs. Then when the market downturn happens, and it will happen sometime in the future, you will be PREPARED.

 

Investing: The Wind in your Savings Sails

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Many articles on investing assume you’ve invested before.  But what if you haven’t? Sometimes, it’s best to start from scratch!

So, why do we invest?

Put simply, we invest because if we stack cash under a mattress (or almost as bad, in a savings account with little to no earned interest), we’ll lose money over time to inflation. Have you ever heard an older family member play the “remember when” game? Remember when gas was $0.50 a gallon, remember when bread was $0.25, etc. What they’re talking about is the effect inflation has on the buying power of a dollar over time. If they had put money under the mattress back then and believed that it would buy the same thing today, they’d be pretty disappointed!

While we are currently in a very low inflation cycle, in any given year inflation can eat away substantially at your savings. In 10 of the last 16 years, inflation was above 2%, and as high as 3.85%. So, your earnings and portfolio growth needs to match that number just to stay even. Just to give you an idea of what happens to your hard-earned money if you don’t match inflation: At 3% per year inflation rate, $1 million in today’s dollars will deflate to about $412,000 in 30 years.

In a nutshell, that’s why we invest.

Ok, how am I supposed to keep up?

Historically, over the long run the best place has been in the stock market. A broad index of the U.S. Large company stock is the S&P 500 Index. Over the last 50 years, it has returned an average of 9.7%.

Stocks are fairly liquid (easy to convert to cash, compared to real estate, for example). And if you put them in an IRA, 401(k) or other tax-advantaged account, it’s a strategy that is hard to beat. They can grow on a tax-deferred or tax-free basis, depending on what type of account you pick.

But, the stock market can also be fairly volatile at times. That’s why it’s important to have a long term time horizon for investing (10+ years), otherwise a bearish market cycle could wipe out some of your portfolio’s value. In any given year, the value of a portfolio can be sharply lower or higher (2008 saw a loss of 38%, while 1954 saw a gain of 45%).

You can also help make your portfolio more stable by including other asset classes, like bonds (see below).

Be sure that you’re receiving professional advice to help target the right portfolio for your risk tolerance and time horizon. Many investors don’t actually get the returns that are cited because their risk tolerance doesn’t match their portfolio choices and they get nervous and sell when the going gets tough. In that case, you miss out on the rebound as markets improve.

What actually happens when we invest?

Well, let’s break it down by stocks (equities) and bonds (fixed income). There are other asset classes but we’ll stick to those two today. Let’s talk stocks first.

When you purchase the stock of a company, you are giving them cash to use for their business. In return, you become a partial owner in the business. When they do well, the stock goes up.  When they underperform, the stock goes down. That’s why it’s also important that you don’t ever buy just one or a few stocks, but invest in a variety of different types (like index funds or target date funds offer). It’s better to have enough stocks to give you a balance, that is, where some go up while others go down. This helps keep your portfolio more stable.

For the bond side, it’s easiest to think of it as a loan that you’re giving the company (or government). You give them your cash, they tell you when you’ll be paid back, and give you interest payments in the meantime. There are plenty of variations on this theme, but that’s the vanilla version. The interesting thing about bonds is what happens to their value if you decide to sell them prior to their maturity. If rates have gone up, you could lose money. If rates have gone down, your bonds could be worth more than the value when you purchased them. 

How can I get started?

Anyone can invest anytime, but some accounts offer tax advantages for specific purposes like education and retirement savings. As soon as someone has earned income, they can start contributing to IRAs, and opening an IRA can be a great way to start investing. See the IRS table here: IRS.gov - IRA Contribution Limits.

Most people really start investing when they get a job with an employer sponsored retirement plan. A 401(k) is one version, but there are several variations on that theme. The great thing about those plans is that contribution limits are higher than IRAs and there’s no income limit on contributions, unlike Roth IRA’s or deductibility for traditional IRA’s. Also, many employers offer a match on employee contributions. Definitely take advantage of this opportunity if you have it!

For small business owners, you have some pretty good options too: SEP IRAs, SIMPLE IRAs and other accounts that are made just for you.

The most important thing…

The most important thing is to start. Back when a bottle of Coke was a nickel, most employees could rely on pensions. Those days are gone and you’re mostly on your own for retirement savings. The value of starting early is undeniable. Just check out this recent article. Some may need more for their financial goals, some may be happy with less, but the numbers speak for themselves when it comes to investing early.

If you need some help determining the amount you should invest, and which investments are best for you, please contact a professional.

Something for women to consider:

As women, we tend to live longer than men, earn less, and to be the ones who take time away from our careers to raise children or care for aging parents. We also make a lot of the household purchasing decisions. For us, it is even that much more important that we take the time to develop a plan to help us reach financial independence and stability.

 

 

All written content is for information purposes only. Opinions expressed herein are solely those of Bridge Financial Planning, LLC, unless otherwise specifically cited.  Material presented is believed to be from reliable sources and no representations are made by our firm as to another parties’ informational accuracy or completeness.  All information or ideas provided should be discussed in detail with an advisor, accountant, or legal counsel prior to implementation.