What to Do When the Market Tumbles

As I write this column, the United States is in the middle of one of the largest financial crises in our nation’s history. After the Great Depression, this may be the second most damaging financial catastrophe that this country has been through. So what do you do when you are in the middle of this mess? Panic and sell? Stay the course? Be more aggressive?

The answer depends on several factors æ mainly your personality, risk tolerance, time horizon and financial need. Let’s go over a few scenarios you may be encountering.

What should I do with a child’s college savings?

This is a classic example of a finite time horizon. That first tuition check is coming the summer before your child’s freshman year of college; there is no putting it off.

So if your child is age 8 right now, you have about 10 more years before you write that first check. Chances are you have ridden the market down the past year and now are staring at an account that is worth 10, 20 or even 30 percent less than it was a year ago. If that is the case and you have 10 or more years before the child goes to college, you may be better off riding out the market so that you can rebound with it when it turns around.

If your time horizon is shorter, such as five to seven years, you should have a significant portion of the account in some type of fixed investments such as bond funds. If the time horizon is even shorter, say one to four years, then you should probably have the majority of the account in fixed income so you know it’s there when you need it.

Will I have to delay retirement now that the financial market is down?

Each of us has a different risk tolerance and living needs. Your risk tolerance is your ability to handle volatility in the market without panicking and selling. Someone with a high risk tolerance may not be too worried right now. On the other hand, someone with a low risk tolerance may be lying awake in bed at night. Generally, the higher your risk tolerance, the more you will have invested in stocks. The lower your risk tolerance, the more you will have in fixed-income investments.

If you currently have a large proportion of stocks, you are probably way down in value. However, stocks have always outperformed fixed income over long time periods, and when the market rebounds your portfolio will rise much faster than someone who is mostly in fixed-income vehicles.

You cannot control the market, but your living needs and how long you plan on working may be in your control. Now is the time to tighten the purse strings and cut back on your spending as much as possible to help make up for the money lost in the market. Also, if you are able to work longer, you may decide that working an extra year or two allows you to accomplish your retirement goals, whereas they would be tough to attain at the preferred retirement age given the recent market declines.

What should I be doing with my investments?

If you have money invested in the financial market that just took a substantial hit, now is not the time to look in the rearview mirror and fret about what happened. It’s time to look out the windshield and see what’s coming.

It is impossible to say whether the market (Dow Jones industrial average) has hit its lowest or in which direction the next 1,000 point change will be, but I believe the next 5,000 points will be up. So if you have a long time before you need this money — more than five years — then consider holding onto your stocks and continuing to buy at a discount, while recognizing the importance of having a balanced portfolio.

Once the current financial problems start to improve and confidence comes back, these low prices may not be seen again. Now is the chance to invest long-term money and accumulate extra shares of good companies at a nice discount. If you are contributing to a 401k or 403b plan at work, this is the perfect way to dollar cost average in the market by buying shares with every paycheck.

Since everyone has different risk profiles, time horizons and living needs, it is impossible to have a one-size-fits-all strategy. The important thing to remember is that you want to take the emotion out of the investment decision and stay disciplined, considering how long it is before the money is needed and your ability to accept the ups and downs of the market in the meantime.

James R. Miller is a certified financial planner and senior vice president of Tilson Financial Group, an independent financial planning firm in Chapel Hill. You can reach him at jmiller@tilsonfinancial.com. Information is provided for advice purposes only. Consult a professional tax, legal and/or financial adviser for information specific to your financial situation.

Categories: Finance, Money