Investors could be forgiven for having essentially forgotten about volatility. After all, since the market bottomed out in the aftermath of the housing crisis, stocks have grown steadily save for brief hiccups in 2011 and 2015. The S&P 500 has more than quadrupled from that low point in March 2009. And while the recent correction may ultimately prove another hiccup, conventional wisdom would dictate that, sooner or later, stocks are headed for another bear market.
Although managing your 401k was pretty easy when stocks could only seem to go in one direction, you'll likely react differently when stocks shift unpredictably, or even fall. Fortunately, there are strategies that you can use to manage your portfolio in times of trouble. A falling market doesn't have to be a setback, provided you approach it with a solid, executable strategy.
Read on to learn more about what to do with your 401k or IRA during hard times.
Keep Calm and Carry On
One piece of valuable advice for how to respond to volatility is not to respond. Overreacting to short-term losses will usually just hamper your long-term gains, so keeping a steady hand on the tiller is the best way to steer your way through the storm.
"Generally, the best thing to do when the market goes crazy is absolutely nothing," said Robert Johnson, President and CEO of The American College of Financial Services.
Diversify, Diversify, Diversify
Never put all your eggs in one basket. Diversify your portfolio across different asset classes and types of securities, and you'll have something to fall back on when part of your retirement plan takes a hit.
Invest in Bonds
Bonds are a relatively conservative investment offering lower but more stable returns. The steady stream of income they produce, and their tendency to move inversely to stocks in value, however, make them an excellent hedge against rocky stock markets.
"Through thick and thin, bonds go far in giving your portfolio stability," said Sid Miramontes, founder and CEO of Miramontes Capital. "Compared to stocks that take a beating in a downturn, bond investments fare much better."
Don’t Try to Time the Market
Try as you might, you're probably never going time entering and exiting stocks to your benefit, and attempting to do so could get expensive.
"The biggest reason individual investors fail is that they try to time the stock market," said Johnson. "That is, they get in and out of the stock market depending upon current performance. New investors should realize that, over the short term, no one can consistently predict the direction of the stock market."
Know Your Risk Tolerance
When you know you're someone who has trouble holding pat, factor that into your investment strategy. Ultimately, the best strategy is one that will keep your portfolio safe from every threat — including yourself.
"Do a risk profile and be honest with yourself," said Cal Cook, Consumer Finance Investigator at ConsumerSafety.org. "If you have a low risk tolerance, it's probably best for you to not even check your retirement accounts regularly because you'll be more likely to panic sell during a drop. If you have a high risk tolerance, feel free to check daily and take advantage of dips in the market by buying more stock."
Buy the Dip
Plenty of smart investors will also view drops driven by market volatility as a great chance to buy, as counter-intuitive as that might seem.
"The best way to stop worrying about turbulence in the market is to view it as an opportunity," said Cook. "You're getting the same equities or index funds for cheaper. If you're a long-term investor, these sort of fluctuations should be seen as a strong buy indicator."
Buying on the dip is a strategy even an investing beginner can implement.
Remember That It’s Buy Low, Sell High — Not Vice Versa
Overreacting to falling markets can often mean unintentionally ignoring the most basic piece of investing advice.
"When you attempt to time the market, you must make a series of good decisions — when to get into the market, when to get out of the market and when to get back in the market," said Johnson. "Individual investors underperform the market averages because they attempt to time the market and end up buying high and selling low — the exact opposite of the old Wall Street axiom: Buy low and sell high."
Timing: How to Know When to Sell Stocks
Have and Follow an IPS
When you first sit down with a financial advisor, you should hash out an Investment Policy Statement, which sets the ground rules of the investment process, according to Johnson. A good IPS will anticipate volatility and build a portfolio that can absorb short-term shocks.
"The whole point of an IPS is to guide you through changing market conditions," Johnson said. "So, it should not be changed as a result of market fluctuations. When it needs to be revised is when your individual circumstances change — perhaps a divorce or other unanticipated life change."
Keep Cash Around
Cash has a negative return over time, so investors can overlook it. But maintaining an emergency fund and keeping a cash position in your portfolio can help you wait out a down market or take advantage of dipping prices.
"Most market downturns don't develop into a Great Recession," said Miramontes. "Having just a three-month buffer of liquid assets on hand can help you avoid the unfortunate need to sell off stocks in the event of temporary volatility."
Stay Away From Your Portfolio
The biggest enemy to your 401k during a falling market is probably your own fear-driven interference. Instead of reacting, leave your investments alone.
"Most people who try to manage their retirement accounts end up losing money," said Cook. "Active investing doesn't work in an efficient market; the best strategy is to simply continue buying and holding."
It's essential to diversify, and you can further protect your portfolio by diversifying not just across asset classes and market caps, but national borders and continents as well.
"The majority of U.S. investors only have 3 percent of their investments in the European market," said Miramontes. "We are reaching a critical point in investments, which should be diversified with at least 10 percent in European funds to downsize the risks to the portfolio."
Remember That Dividends Can Be Your Friends
Dividend stocks can function as a happy medium between stocks and bonds.
"Factoring in whether or not a mutual fund pays dividends can help you decide on which to go for," said Miramontes. "These dividends can make up a steady stream of income that may add some stability to your situation in a volatile market."
Learn More: 10 Best Dividend Stocks of All Time
Remember That Time Is on Your Side If You’re Younger
The average annual return for the S&P 500 over the last 90 years is 9.8 percent, even after all of the ups and downs, booms and recessions. When you're over a decade from retirement, returns will likely even out in time.
"... If people would buy and hold, common knowledge is that they'll probably average about 9.14 percent [annual returns]," said Doug Andrew, author of "Last Chance Millionaire" and "Millionaire by 30." "You've got to be able to hang on and not have to liquidate or react with panic and emotion when the market crashes."
Consider Delaying a Few Years If You’re Nearing Retirement
When you're within a few years of retirement, simply waiting out the market might still be the best tactic, even if that means putting off your retirement. Delaying is obviously not the most attractive solution, but waiting a few years for markets to regain their footing has a lot of potential benefits.
When you consider that pushing your retirement could also boost the size of your Social Security payments, putting in another year or two on the job might still be unappealing, but it could be worth it to set yourself up for a long, happy retirement.