Stick to your plan and adjust allocations as needed
Market dips aren’t usually much fun for investors. But they’re often a good opportunity to take stock.
It’s important to remind ourselves that occasional pullbacks aren’t just inevitable; they can be healthy, even in a strong bull market. Market turmoil can also be a good time to check if we need to rebalance our portfolio and review allocation targets and risk tolerance.
In the first of our two-part mid-year market review, we looked at how stock markets soared in the first half of 2024. Canada’s S&P/TSX Composite Index was up by 6.05% in the first six months of the year. Internationally, almost all the main indexes we follow made new all-time highs.
U.S. equities did especially well. The S&P 500 hit a remarkable 31 new all-time highs by mid-year, with tech stocks helping to drive the index to its 13th best yearly start since 1950.
Pullback was inevitable
Given the long stretch of almost uninterrupted gains, a pullback at some point was inevitable. Indeed, the TSX kicked off August with a sharp tumble, losing about 5% from its high to the low three days later.
South of the border, the S&P 500 lost approximately 8% in those same three days before mounting a recovery. The tech-heavy NASDAQ-100 Index has done worse in a decline that started in mid-July, dropping about 15% by August 5.
Japan has fared especially badly, with its Nikkei 225 Index plummeting about 25% from its mid-July peak to the August 5 low.
Turmoil explanations vary
Why did markets go berserk? Some pundits blamed disappointing U.S. job numbers, while others pointed to a sudden rise in the Japanese yen and a bursting tech bubble. “The simplest explanation,” wrote columnist Jason Zweig in The Wall Street Journal, is that “markets went haywire early this week because markets consist of people, and crazy behavior is contagious.”
The fact is occasional pullbacks aren’t just inescapable in healthy bull markets; they’re common and may even be beneficial. They can work like a release valve when stocks get too steamy, and they provide a good basis for a new rally.
“Uncertainty is underrated”
Corrections are also part of the risk that investors take on in order to make a return, as Dimensional Fund Advisors chair David Booth explained in an insightful recent commentary in Fortune.
“Uncertainty is underrated. Without it, there would be no surprises, no joy in watching sports, and no 10% average annualized return on the stock market over the past century. All investments involve risk—there is no guarantee of success. Investors can be rewarded for taking on the risk of not knowing exactly how things will play out.”
Booth said the job of investors is to manage their risk: “That means ensuring our portfolios are diversified across regions and asset classes.”
Good time to rebalance
At PWL, we couldn’t agree more. Our approach is to manage risk with an evidence-based approach of passive long-term investing in a diversified portfolio. As asset values fluctuate, we also regularly rebalance to maintain allocation targets.
For readers who aren’t clients, we suggest regularly reviewing your portfolio to see if it’s still in line with your targets. This is especially important after a prolonged rally such as the one we’ve seen since September 2022.
A rally can cause the stock portion of your portfolio to be significantly greater than it should be based on your investment plan and risk tolerance. In that case, you may need to rebalance your portfolio to bring it back in line with your targets.
Reflect on targets and risk tolerance
The recent turbulence is also a good opportunity to reflect on your allocation targets and risk tolerance. Be sure they’re still aligned with your needs and expectations.
If you feel you can stay the course during a correction, there may be no reason to make changes.
A skilled financial advisor can help you craft an investment plan to ensure sufficient funds to live on and protect your legacy.
Follow your investment plan with discipline
The most important lesson of all is to follow your investment plan with discipline and shut out the market noise. That’s especially important when noise levels rise.
As money manager Shelby M. C. Davis, founder of Davis Selected Advisers, has said, “History provides a crucial insight regarding market crises: they are inevitable, painful and ultimately surmountable.”
Indeed, since the early August pullback in stocks, the main Canadian and U.S. indexes have recovered a good part of their losses. No one can know if the turmoil will continue, but we can get some peace of mind knowing that pullbacks eventually end. And in the meanwhile, following an investment plan with discipline can help you stay the course.
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Read more commentary and insights on personal finance and investing in our past blog posts, eBooks and podcast on the website of PWL Capital’s Parkyn-Doyon La Rochelle team and on our Capital Topics website.