August 3, 2011
Things to keep in mind during market turmoil:
A diversified portfolio of 80% equities and 20% fixed income has historically earned 9-12% per year on average over the long term[1]. However, in any short period of time it can lose money, sometimes significantly, as it did in 2008 and early 2009. Rarely does the unrealized loss extend to more than three years (2000-2002, 2006-2008 and 2007-2009 being the exceptions). One of the most damaging things that can happen to a portfolio is for it to be sold in a panic during a down market. Note that this does not mean you cannot sell any part of your portfolio during a down market. If you have an emergency need for capital, you can generally take it from the fixed income component of your portfolio without significantly damaging your long term performance. This is because the amount needed is generally a small percentage of your total portfolio and the fixed income portion tends to rise when equities fall.
If past history is a guide, all market declines are temporary decreases in prices in the long-term upward trend of equities. In January 2010, the S&P 500 was trading at about 1150[2]. In January, 1990 (twenty years earlier), it was trading at 329. Twenty years before that, in January 1970, it was trading at 85. Twenty years farther back, in January 1950 it was trading at 17. These numbers do not include dividends.
Remember, any money you know you need to spend in the next three years should not be in the market anyway – it should be in a safe, liquid bank account or short-term high-quality fixed income.
Our advice during down markets is to invest more in your portfolio if you can afford it. It is a great time to buy equities at sale prices!
[1]As of 12/31/10; source: Dimensional Fund Advisors Matrix Book 2011. Diversification includes US large & small cap, international, emerging markets and US REITs and is small cap and value leaning across all asset classes. Fixed income is high-quality and short to mid duration. Returns do not include the effects of fees, trading costs or taxes. You cannot invest directly in an index without incurring a fee.
[2]Note that as of July 1, 2011, the S&P 500 was trading at over 1300