WASIF LATIF 27-Feb-2020
Earlier this week, coronavirus fears spooked the market and investors fled risk assets en masse. True, the headlines are worrisome. Nobody knows whether the outbreak will evolve into a serious pandemic or what its ultimate impact will be on the global economy.
What we do know, however, is that during times like this it’s important to remain calm. Uncertainties and uncommon events often incite emotional investing decisions that can have destructive ramifications on returns and long-term investment objectives. There’s an entire field of Behavioral Economics that studies the effects of psychological and emotional investment decisions. We know that the urge to sell stocks is very strong during times of tumult. Conversely, investors often don’t have the stomach to buy after the market plummets and losses are fresh in their mind. This is just human nature.
To put it simply, we are hard-wired to buy high when everything feels good and sell low when times look bleak, which is often the exact opposite of what investors should be doing. So how can investors avoid this pitfall?
One possible solution is to employ a systematic, disciplined approach that provides exposure to stocks with a built-in mechanism to shift allocations and raise cash depending on market conditions. So when stocks fall to a certain level, reallocating to cash may be an important first step to help limit steep losses associated with protracted downturns. But that’s only half the battle. It’s also imperative for investors to have a plan to step in and methodically reinvest after stocks go down.
Admittedly, having the discipline to stick to your plan is not easy in turbulent times when bombarded with dire news. Fortunately for investors there are some investment products that may help eliminate the temptation to make emotional decisions. These rules-based products may be appropriate for investors seeking equity exposure with some level of downside management. And they also might help any investors who have become uncomfortable with high stock valuations and elevated levels of market volatility—like now. Of course, careful due-diligence is important, and investors should consider the exit and reinvestment methodologies of such products, as well as their associated fees and expenses.