Warren Buffett’s annual Berkshire Hathaway shareholder letters often offer sage advice. His most recent 2016 letter was no exception, including this powerful insight about market downturns: “During such scary periods, you should never forget two things: First, widespread fear is your friend as an investor, because it serves up bargain purchases. Second, personal fear is your enemy.”
While we have no idea what the future holds, and we are by no means suggesting that the market is about to take a dive, it is always prudent to plan today to ensure that you are both well-prepared and well-positioned for tomorrow. Here are some great questions to consider to determine how prepared you are for when that correction does present itself:
Market Returns – Are you taking on enough stock market risk in your portfolio to capture a measure of expected returns when they occur (often unpredictably and without warning)?
Market Risks – Are you fortifying your exposure to market risks and expected returns with enough lower-risk holdings, so you won’t fall prey to your fears the next time markets tumble?
Personal Goals – Have you assessed whether your current portfolio mix is optimized to achieve your personal goals? Speaking of goals, have yours changed, warranting portfolio adjustments?
Personal Risk Tolerance – Have you been through past bear markets? If you discovered you’re not the risk-taker you thought you were (or, conversely, you sailed through with relative ease), does your current portfolio mix of safer/riskier holdings accurately reflect what you learned?
Actual Analytics – Have you carefully considered what a 30% or so market downturn would mean to you in real dollars and cents? Yes, it could happen. If it did, and you feel you’d be unlikely to hold firm with your current holdings, additional preparation may be warranted.
In short, the best way to prepare for the next down market, whenever it may occur, is by having a well-planned portfolio in place today – one you can stick with through thick and thin. It should reflect your financial goals. It should be structured to capture an appropriate measure of expected returns during good times, and it should incorporate the flexibility and liquidity you need to allow you to effectively manage your personal fears through all different types of market conditions. So ask yourself, does your portfolio meet these criteria? If the answer is yes, you should be confident that you having nothing to fear when the market takes a turn. And if the answer is no, it’s time to prepare for that inevitable correction.