Recently, I met with a long-term client who initially worked with Paul Smeton but then worked with both Paul and me as we worked through our business transition. She told me that she tended to be anxious by the ups and downs of the market, and Paul told her, “The Bear Market is your friend, and embrace it.” She told me that the message always resonated with her and, in some way, comforted her. When she told me that, the light bulb went off because I remembered Paul saying that to folks. It reminded me that there are some messages that we at HFG have to keep saying. I have referenced Nick Murray. He coaches financial advisors and tells us that we have to keep administering Vitamin C to our clients regularly to keep the timeless wisdom at the top of our minds.
So, where do we go from here? First, I do not want to be presumptuous and assume everyone knows what a bear market is. A bear market is defined as when the stock market, typically using the S&P 500, the top 500 companies, drops more than 20%. A correction is when the market drops 10%.
Second, I want to give you some historical context. On average, the stock market drops by 15% at some point during the calendar year. In about one in five years since WWII, the market has dropped 30%; three times during that 80-year period, it has dropped half or 50%. You could ask yourself, why bother investing in stocks?
The why is that investing in the best-run companies in the form of stock is the best long-term investment. Over the long term, its nominal return is between 10-11% and easily beats every asset class, including cash, bonds, real estate, gold, and others. It single-handedly is the best hedge long-term for inflation and keeping up your purchasing power for retirement income.
So what do you do? Here are three things you can do:
(1) Mentally prepare yourself that bear markets are inevitable. For me, I think of it like rain and snow storms. Living here in Maryland, there is no way we will have 100% sunny days. You have to expect the rain. Also, like the weather, there is no way you can accurately forecast when the bear markets will come and how long they will last. People who tell you they can do 100% of the time are deluding themselves or you. It is too difficult. We have learned it is virtually impossible to time bear markets. The reason is that no two are exactly alike and react similarly. I have learned as an investor to create your plan and primarily stick to it. You cannot get out and in and make decent returns consistently.
(2) We believe in the bucket approach with the now, soon, and later buckets. The now bucket is for the money you need in the next year, soon is what you need it for the next 2 to 10 years, and later is for spending in 10 years and more significant. It would help to have cash, bonds, and annuities for your now and soon bucket because they provide stability. Your stocks are in the latter bucket because you have time to ride out the declines of the bear market, which, in the worst-case scenario, typically has been 3 to 4 years, where it declines and gets back to the same value, then goes on to new highs.
(3) Focusing on retirement income, focus on your essential expenses and guaranteed income. This is a paradox. We and the research have found the more guaranteed income that people have and if one has enough guaranteed income to cover essential expenses, the less anxiety they have. Where is the guaranteed income come from, for most of us it is pensions and Social Security. For many of us in the private sector, we no longer have access to traditional pensions. Companies did away with them long ago because they cannot afford them. What makes a pension powerful is the contractual guarantee. The challenge is cash, bond mutual funds, stocks, and stock mutual funds do not provide us with contractual guarantees. The only way we can do that is through income annuities. I know what you are saying. I have heard annuities are bad. Believe me, I heard that and believed that also. Like most things, painting with a broad brush and saying all annuities are wrong is not valid. I am not saying everyone should have annuities. However, if you want to be less anxious during a bear market, they may reassure you so you do not panic sell.
That timeless wisdom is as accurate now. Bear markets are part of life. We never know when they are coming. We just need to be prepared for how we will respond and have a game plan in advance instead of emotionally reacting.