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Beware the Coming Stock Market Correction-Whatever

Beware the Coming Stock Market Correction-Whatever

It’s easy to find financial journalists and analysts predicting a stock market correction (AKA a significant drop) sometime in the future. At the same time, other journalists and analysts are saying there are no indicators of a correction. What are we to believe?

 

As I post this on 10 July, we might already be at the beginning of the correction as the stock market is down about 4% since 19 May…we’ll see. (Never mind, as of 17 July, we’re back up to normal. Oops never mind again, as of 30 July the trend is still going down. What difference does it make?)

 

The ones predicting a correction tend to point to the fact the stock market has been on a rip since March 2009, the historic average timeline states we are due, and their data indicates the stock market is overvalued–too expensive.

 

The ones predicting no stock correction state the stock market is not overvalued according to their data and the sluggish economic data mitigates the stock market’s continued rise.

 

I’m not predicting anything. Nor did I make predictions for my past clients. Instead I’ll provide another spin for your consideration.

 

Rather than get wrapped up in market predictions, I generally prefer a planning process that manages to the risk while working towards your long range objectives; whatever the risk may be in meeting your objectives. Not short-term risks. We can’t know what will happen in the short-term but long-term that’s another matter. If we assume your portfolio risk is due to the stock market (now or in the future), that’s what we manage to.

 

Ask yourself, if the stock market takes a 50% hit tomorrow, how will that impact you? Will you care? Many will think, “Of course I’ll care!” However, this should depend on where you are in life.

 

If you are working, making regular contributions to your 401k/TSP/IRA and still years from full retirement, a down stock market is actually a good thing for you. Only in a down market can you increase your future wealth by purchasing greater amounts of ownership. There are several articles on this site that explain the details of this concept. Please read them if you do not understand the concept of a down market increasing your wealth. A good place to start is a 3-part article “Practicing What I Preach” at http://moaablogs.org/financial/2012/02/practicing-what-i-preach-part-1-of-3/.

 

Now on the other hand, if a stock market decline causes you trouble, you need to re-evaluate your financial plans/strategies and portfolios now to account for a decline before it occurs. Hope you’re not too late. By “…causes you trouble…” I mean a stock market decline will cause you immediate financial pain as you will sacrifice a current retirement income source or you risk running out of assets before the end of your or your survivor’s life.

 

Proper financial planning based on your objectives should mean a stock market decline is never a concern; you shouldn’t have to be concerned in the first place. Your financial plan should have already accounted for that prospect. If your financial plan requires constant oversight and adjustments to your portfolios based on current conditions and predictions…well good luck with that. You’ll have a lot of sleepless nights.

 

Let’s look at some ideas for meeting your objectives while managing to the risk.

 

Please consult a practicing financial professional for assistance. MOAA does not practice financial planning from our staff. We provide general education and counseling not personal financial recommendations or advice.

 

Separate blocks. Have separate portfolios based on segmenting your future into three blocks of time.

 

The first block is an income source for the immediate future, 3 years out. This portfolio is cash and readily available for living expenses. It doesn’t matter what the stock or bond markets do because this money isn’t going anywhere other than your pocket as you deplete the account.

 

The second block of time is 4 to 6 years out. This block has enough assets to re-supply your first block income someday. This allows more time for money to grow by seeking appropriate higher-return instruments. Maybe you buy intermediate-maturity bonds, CDs, deferred fixed annuities, balanced mutual funds, inflation-adjusted instruments, floating-rate funds. Sophisticated investors may sell options, or purchase preferred stocks or convertible bonds. Point is the appropriate instruments here are minimally affected by market variations.

 

The third block is money meant for the longer term, 7 years out and more. This block will probably consist of most of your assets. A portion of it will become the second block as the second block is shifted to the first block. This is money that can withstand a near term stock market drop because it has time to recover. This money can be adjusted more easily without sacrificing future income because you have the time to adjust. Investments here should provide a greater potential for long-term growth. This means primarily stocks but the aggressiveness/volatility of the portfolio can be managed to achieve the appropriate growth pattern you desire.

 

Diversified portfolio. Manage your portfolio with a variety of investments that react to various market conditions in their own ways. This way when the stock market declines, other investments don’t react to the stock market in the same ways—they counteract the stock market so to speak. A diversified portfolio won’t catch all the stock market’s highs and it won’t catch all the stock market’s lows. You plan to drive a smoother path down the middle of stock market highs and lows.

 

Buy a pension. Use some assets to purchase an immediate annuity. This is like buying a pension. Drop a lump sum into an immediate annuity and receive life-time guaranteed income for you and a survivor if you wish.

 

Bond ladders or other bond strategies. If you have enough assets, you may not need to be in the stock market at all. Buying individual bonds and holding them until maturity eliminates stock market and interest rate increase concerns. By varying the maturity lengths and types of bonds, you may be able to generate enough income to live on without tapping your principal.

 

An income portfolio. An income portfolio will be affected by stock market volatility but you don’t care. With this strategy, your focus is on the interest, dividends and capital gains an investment pays on a monthly, quarterly, semi-annual or annual basis. The share price (and your portfolio value) of the investment will rise and fall with the markets but the payments are what matter. You live off the income generated by the portfolio; not your principal. So as long as you are not selling ownership shares, their value doesn’t matter. Income investors are into dividend paying stocks, higher-interest rate bonds, preferred stocks, closed-end funds, real estate investment trusts (REITs), mortgage-backed securities, selling covered options, partnership arrangements, etc.

 

Income properties. If you are a property owner, you know that there are two ways to view your ownership. You either plan to sell one day and market values matter to you or you focus on their income potential and market values don’t matter as much. You probably read “Rich Dad, Poor Dad.” If you don’t own properties, but like the idea as long as you don’t have to own the properties, check out real estate investment trusts (REITs) as a possible investment option.

 

Insurance options. There are insurance and annuity policies with income riders that could meet some of the objectives of this article. I’m generally for keeping insurance and investments separate but check them out with your adviser to complete your education. Knowledge is power and knowing all your options makes you a better consumer and investor.

 

Hope these ideas provide you some worthy options for your consideration. Remember, consult a financial professional to discuss your personal situation and develop your portfolios.