How to Build an Investment Plan in a Volatile Market

Market volatility is a natural part of investing.  Corrections, or declines of 10% or more from the recent closing highs, are fairly common, with the S&P 500 logging 56 corrections since 1929.  Still, for many individuals, especially those nearing or in retirement, market shifts can cause significant anxiety. Inflation, geopolitical tensions, and changing monetary policies can fuel these swings and make even seasoned investors question their strategies.  With a well-structured plan, investors can weather turbulent market shifts with confidence and stay focused on long-term financial goals. 

Understanding Market Volatility

Market volatility refers to price movements, their frequency, and magnitude within the market.  For example, in 2022, nearly half of all trading days—49%—saw the S&P 500 move at least 1% in either direction, marking the highest daily volatility since 2008.  While volatility can create investment opportunities, it can also introduce risk via emotional decision-making and short-term losses.  Sharp market declines can trigger fear, which leads investors to make impulsive decisions, such as selling at a loss or abandoning long-term strategies.  Knee-jerk moves can also jeopardize future retirement income.

While these fluctuations can be unsettling, it’s important to remember that volatility doesn’t necessarily mean negative performance.  For example, in March 2020, global markets plunged due to the COVID-19 pandemic.  The S&P 500 dropped nearly 34% between February and March, marking one of the fastest bear markets in history.  However, by the end of 2020, the S&P 500 gained over 65%, ending the year up 16.3% overall.

History shows that markets tend to recover over time. The S&P 500 has had 22 bear markets (a fall of 20% or more from recent highs), including the Great Depression. While there are exceptions, they typically last between nine and 15 months. Still, they can present buying opportunities and lead to new market highs.

Principles to Guide an Investment Plan

These actions can help build a resilient investment plan that can thrive in a volatile market:

1. Diversify Across Asset Classes: Diversification is one of the most effective tools for mitigating risk.  Spreading investments over various asset classes, like stocks, bonds, real estate, and commodities, can fortify a portfolio from the poor performance of any single asset.
2. Assess and Adjust Risk Tolerance: Risk tolerance is important, especially during volatile periods. Investors who overestimate their comfort may panic and impulsively sell during downturns, locking in losses.  Staying invested during volatility rather than exiting the market can yield positive results.  However, regardless of market conditions, investors should regularly revisit their risk tolerance as a best practice.
3. Maintain a Long-Term Perspective:  Volatility is usually more pronounced in the short term.  A long-term approach (5 years or more for gradual wealth accumulation) can help reduce the impact of temporary market swings.  As J.P. Morgan pointed out, over the past 20 years, seven of the stock market’s 10 best days occurred within just 15 days of one of the market’s 10 worst days. An investor trying to dodge the bad days could potentially miss the best days.
4. Incorporate Defensive Investments:  During uncertain times, allocating part of a portfolio to “defensive investments,” low-risk, stable assets like dividend-paying stocks, Treasury Inflation-Protected Securities (TIPS), or high-quality corporate bonds can safeguard against downside risk. 
5. Have a Cash Reserve:  Financial experts recommend investors have six to 12 months in cash reserves to cover living expenses. This can help prevent the need to sell investments during market dips.  Emergency funds provide liquidity and are part of any solid financial plan during periods of income disruption and market stress.  

Building a Personalized Strategy

There are many investing approaches, and every investor’s situation is unique. When volatility strikes, the strategy for weathering market storms should reflect individual goals, risk tolerance, time horizon, and income needs.

This is especially true for pre-retirees who may not have the luxury of waiting out long market cycles. Sequencing risk, the danger of withdrawing from portfolios during market downturns, can impact retirement income. A well-structured, individualized plan can account for this by combining income planning with investment diversification and withdrawal strategies.

Partner With a Professional

Sound investing principles are straightforward, but effectively applying them during instability can be challenging.  A financial advisor can devise a personalized, goals-based investment approach that balances growth potential with risk management.

At SHP Financial, we specialize in helping individuals and families create robust retirement and investment plans, positioning them for success in today’s dynamic environment.  Let us guide you in developing a strategy that adapts to changing market conditions and your evolving needs. Contact one of our advisors today for a complimentary review of your finances.