People react to market volatility in different ways.
When investments go down, some people will think they need to get out fast before they lose more money. Other people will realize that you can’t change the past and just ride things out. And some investors – the astute ones – will look at market volatility not as a crisis, but as an opportunity.
Think about it. Would you rather pay a high price for something, or a low price? I know when I go shopping for groceries I like to buy things on sale. Why would it be any different if I am shopping for investments? If it is a well-run, profitable business with a bright future, and you liked it at $100, then you should love it if you can buy more at $80.
People also react to the anticipation of future market volatility in different ways. And that’s what I want to talk about today.
When the news came out of more military conflict in the Middle East I took a call from a client. The consensus at the time was that energy prices were going to head sharply higher. He was wondering what we should do next.
Higher energy prices can be good for some businesses, but bad for others. So, do we buy more oil stocks? Do we sell some other stocks? What’s good? What’s bad? What do we do now?
My advice to him was to worry neither about trying to pick the right sectors to be in, nor the sectors to avoid. Just be diversified and take the long-term view.
Don’t have all your eggs in one basket, as the old saying goes. There is a reason why this is an old saying. It has stood the test of time. Put all your eggs in one basket and you can lose everything if something happens to the basket.
The problem with trying to make bets on what you think is going to be hot is that things go in and out of favour quickly. If you get too concentrated, you can be left holding the bag when sentiment turns.
This problem can also happen in reverse. Avoid a sector that you think will be cold, and you miss out when that sector heats up.
It wasn’t too long ago that people shunned energy stocks. Now everyone wants more. It wasn’t too long ago that tech stocks were rocketing up. Now they are in free fall.
This is the problem with betting on sectors. What’s good now can be bad later. Volatility works both ways. What goes up fast can come down just as fast. And vice-versa. What’s bad now can be good later. And usually there is no advance notice of future events.
So rather than trying to be in precisely the right spot at the right time, a far more reliable strategy is to be diversified, knowing that you will not have all your money in the best place to be, but also knowing that you won’t have all your money in the worst place.
Being properly diversified also means that you can have the peace of mind of knowing when the hot sectors rotate, you will have a piece of that action too. No need to overthink things. No need to try to pick the right winners at the right time.
A word of caution. Owning three different Canadian Balanced mutual funds from three different banks doesn’t make you diversified. It just means you bought more of what you already have. Its duplication, not diversification.
True diversification means that not all your investments move in the same direction at the same time. Its not good enough to simply hold multiple investments if the investment performance is correlated.
A good indication of true diversification is that you should always hate part of your portfolio. Just not always the same part.
Look at market volatility opportunistically. Be diversified. Stay focused on your long-term goals. This is the way.
Brad Brain. CFP, R.F.P., CIM, TEP is a Certified Financial Planner in Fort St John, BC. This material is prepared for general circulation and may not reflect your individual financial circumstances. Brad can be reached at www.bradbrainfinancial.com.
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