Keeping Your Cool in a Choppy Market

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by Suze Orman

Posted on Friday, April 20, 2007, 12:00AM
A couple of months ago, when the Dow lost 416 points in one day, I happened to be on the Larry King Live show. Larry was quick to ask me what individual investors should do in the wake of the meltdown.


It was a question I would be asked repeatedly over the next few weeks as I met with individuals and the media during a book tour. My advice to Larry's audience that night, and what I've been saying to everyone else ever since, is about 180 degrees from what you might have heard from hyperactive market watchers.


Short-Term Frenzy


Things have stabilized since February, and last week the Dow even set record highs, but my advice then and now is to stay focused on the long-term and do your best to ignore market volatility. I know it's not fun to watch your portfolio fall, and when the market shaves nearly 500 points in one day it's natural to feel concerned or even panicky.


It reminded me of my days as a stockbroker in the 1980s when my colleagues would be whipped into a frenzy whenever the market slid. They weren't just dealing with jittery clients; often, it was their own undiversified portfolios they fretted over. So they frequently reacted -- or overreacted -- by bailing out of investments at the low point.


This same mentality concerned me during the global market swoon that began in late February. I kept reading and hearing plenty of so-called market gurus yelling \"sell\" one day and then changing their minds in the following days and claiming it was a good time to buy at the bottom.


I'm not referring to financial advisors who are fee-based and work with their clients with an eye toward reaching long-term goals. Much of the jittery advice was from the short-term-minded money folks who think doing something is always better than doing nothing.


Three Ways to Avoid the Jitters


I realize that it's hard to remain calm and focused in the heart of a tough market. But that's precisely what's needed to succeed over the long-term. Here's how to make sure you don't succumb to short-term market jitters:


1. Stay focused on the long-term.


Don't tell me this is the same old advice -- it's the most important investing advice there is, and yet it's also the hardest for many people to follow.


Assuming you have a well-thought-out portfolio, you don't need to do a thing when the market falls. In fact, if you have a 401(k) -- and that's the source of most people's stock exposure -- and you have at least 10 years or longer until you need your money, there's definitely a silver lining to market declines.


As long as you have quality mutual funds, ETFs, or stocks and are properly diversified, every time the markets go down your 401(k) will buy more shares. And owning more shares is what helps you the most, because when stocks rebound -- remember that the long-term 10 percent annualized gain for stocks is more than double the return of bonds and cash -- you'll have more shares that can rise.


Wouldn't you rather own 10,000 shares of a mutual fund so that every time it goes up $1 you make $10,000, instead of 1,000 shares where you only make $1,000? Yes, you'll see the shares you already own decline in value during the market downturns, but remember, your 401(k) is not about what you have today. It's what you'll have 10, 20, or 30 years down the line. Owning more shares that can participate in market upswings is going to help you reach your ultimate retirement goal.


2. Avoid the timing bomb.


When you focus on the long-term you're in a better position to avoid one of the biggest investment traps individual investors can make: trying to outsmart the market by making frequent buy-and-sell decisions in reaction to news and events.


Of course, it would be ideal if we could pull out of the market at the first whiff of a downturn and jump back in right before the market shifts into rally mode. But it's absolutely impossible for anyone to consistently know the precise time to get in and out.


That's what's so dangerous about the jitter mentality: You jump out and feel smug when the market loses subsequent ground, but you only really win if you manage to get your money back into the market in time for the next upswing. And we all know there's no shortage of studies and data that point out the tendency for investors to buy stocks high and sell low.


Timing just doesn't pay, especially if your trading triggers commissions. Moreover, if the money isn't in a retirement account, you've potentially got a tax bill to worry about, too.


3. Stick with stocks.


You may have read that I currently have the bulk of my own money invested in zero coupon municipal bonds that earn about 5 percent tax-free, and a smaller portion of my assets invested in stocks. That doesn't mean I think everyone should load up on bonds.


In my earlier years, of course, I had the bulk of my money invested in the stock market because I needed it to grow as much as possible. But I'm in a different financial situation now and can afford to take less risk. I can meet my financial needs, take care of my loved ones, and focus on my philanthropic interests with lower-risk bonds.


Besides, that 5 percent tax-exempt yield is nothing to sneeze at. I would have to earn more than 7.5 percent in a taxable investment to match that. Anything that earns that much is going to carry a whole lot more risk than my municipal bonds.


Could I also potentially earn a lot more if I focused more on stocks? Absolutely. But I don't need that extra return to meet my biggest goal, which is to preserve what I have so I can take care of the people and causes that are important to me.


Anyway, here's the more important takeaway: When your goal is to build a significant retirement stash, it's important to focus on stocks, assuming you have a long-term horizon.


Simply put, stocks offer the best chance for the largest inflation-beating gains over the long term. And as I've said before, it makes a ton of sense to stick with low-cost index mutual funds. Using a broad-based fund such as the Vanguard Total Stock Market Index (VTSMX) for about 90 percent of your investment money and the Vanguard International Growth Fund (VWIGX) for 10 percent of your money is a great strategy that makes it easy to weather any market jitters.


Better yet, dollar-cost average your investments on a monthly basis. It's the perfect move when the markets are choppy.