All eyes are on the Fed today – and how to handle stock market volatility for your portfolio

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Extreme market volatility – with the accompanying fear and greed – can lead investors to make emotional rather than logical decisions. And market timing can be an expensive habit.

Stocks are moving in lockstep again, in a risk on/risk off fashion. Current market focus is on Fed action and higher borrowing costs hampering economic growth. Last week, the higher-than-expected August CPI caused the S&P 500 to fall more than 4 percent on Tuesday, with growth stocks plummeting more than 5 percent. For perspective, last Tuesday was the worst day of performance for the S&P 500 since mid-2020 as we dealt with news about the Delta variant and its impact. Furthermore, last week’s market action followed two sessions in which 400 of the 500 stocks in the S&P 500 rose.

It is difficult to stay on track when there are such extreme market movements. Depending on how our stock portfolios are positioned, many of us feel brilliant, happy or just scared –

While volatile times can set the stage for active managers to shine, the price of getting even a few things wrong in today’s volatile and correlated markets is expensive. And we already know that few active managers outperform the market over time.

Bad timing can put any investor at a significant disadvantage, especially when uninvested during the biggest one-day market gains. According to Bloomberg News, not investing for the best five days so far in 2022 will increase the year-to-date loss of the S&P 500 from 19 percent to 30 percent. For more information on this topic, see my previous column on the danger of missing out on major market movement days: “Why Market Timing Is Still a Bad Idea”.

So staying invested is essential. According to Olivia Schwern, Global Investment Strategist at JPMorgan, there have been 51 days since 1980 where the S&P 500 fell more than 4% in a single session, just like it did last week. 21 of those days took place during the global financial crisis in 2008/2009, and another 9 in 2020. After each time, the market recovered to reach new highs.

And then it’s critical to harness the power of long-term diversification in your portfolio. Yes, fixed income can be your friend. In fact, many investment professionals specifically view fixed income as the ballast in their portfolios, allowing them to have greater exposure to equities. JPMorgan reports that while 12-month moving stock returns have varied widely (from +60 percent to -41 percent) since 1950, a 50/50 mix of stocks and bonds has not accumulated negative annual returns over a five-year rolling period in the past 70 years.

I would add here the caveat that one should also consider one’s investment timetable – for example, if you are retiring at age 60, you may want to recheck the diversification in your portfolio and adopt a lower risk profile. No one wants to get caught on a finite time frame in bear markets.

Well-formulated, diversified multi-asset portfolios help investors achieve financial goals in all types of market environments. As the chart below from JPMorgan further illustrates, the market needs a 25 percent return from current levels to return to previous highs. Even if it takes three or four years, the average annual return needed — 9 percent or 7 percent, respectively — is around historical standards.

Of course it is tempting to predict market direction, but a well-formulated and diversified portfolio remains the safest way to participate in volatile markets.

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