The past few weeks have given stock investors around the world a bitter taste of the volatility dragon that comes out of its cave every once and a while. It hasn't been pleasant.
After years of steady returns, we seem to be in a new market phase. Interest rates are climbing. Stock prices are getting pummeled. And the U.S. will be pitching global investors on trillions of dollars in new debt.
There are some easy ways to deal with volatility while achieving your financial goals. But to do that, you'll need to take a hard, detailed look at your portfolio.
First, the telling pronouncement by Bob Prince, the co-chief investment officer of Bridgewater Associates, the world's largest hedge fund:
“Last year equity markets had a free run," Prince told The Financial Times. "But this year we are going from central banks contemplating tightening policy to actually doing it,” Mr Prince said. “We will have more volatility as we are entering a new macroeconomic environment.”
Let's break this financialspeak down a bit. Central banks like the Federal Reserve say they will be raising their benchmark interest rates because they want to brake inflation - if it rears its head in a growing economy.
The "new macroeconomic environment" Prince refers to is a slow-growth economy in which higher rates and inflation may pinch growth even more. Since stocks compete with bonds, higher bond yields will attract increasingly more stock investors.
This all translates into higher volatility. The tilt-a-whirl ride is far from over. If you just look at the CBOE Volatility Index or VIX, also known as the "fear index," we're seeing the highest volatility upsurge since 2015.
The index, which only looks at short-term market nervousness, doesn't predict where the stock market is going. It only tells us that traders are like cats on a hot tin roof now.
How You Can Protect Yourself
What should you do in the face of this higher level of anxiety? For one thing, don't be watching stock indexes or the VIX every day. That will drive you crazy.
Do a scan of your portfolio. First, look at your bond holdings, then everything else. You'll need to answer some specific questions:
-- Are your bond holdings particularly volatile? If you're mostly in short-term government bonds or municipals, probably not. Generally, longer-maturity bonds are the most volatile. In the corporate bond world, the most volatile bonds have the lowest letter ranking - generally "b" or below. If you own individual bonds, just hold them to maturity.
-- Are your stock holdings volatile? Older, dividend-paying companies usually have less price variation than newer companies. If you're holding these companies in mutual fund, you're getting diversification. Buy more shores when prices dip.
If you own individual shares, the same strategies apply. A good way to buy and hold stocks is through Dividend Reinvestment Plans (DRIPs), which automatically reinvest dividends and allow you to buy new shares without paying a commission.
-- Have you looked at your overall mix? You may have too much in stocks - or not enough. How can you tell? One rule of thumb I like is the percentage of income investments in your portfolio should roughly match your age. If you're 30, then 70% of your portfolio should be in stocks and not bonds.
The bottom line on volatility? It's going to be a roller-coaster and won't go away. Focus on your long-term plan.
