Five things not to do

Five things investors shouldn't do when there is lots of bad news around and markets appear to be on the verge of a crash...

Don't let your emotions rule your head

If your investment strategy is driven by emotion you are sure to lose out sooner or later. You are more likely to buy into markets that are looking overpriced and to sell when markets are cheap. Moreover, there is plenty of evidence that shows investors will act irrationally when they are fearful or greedy. A particular example of irrationality is the tendency for investors to sell their winning funds more often than their losing funds; they are afraid of losing any profits that they have made. But if you still believe an investment is good, and it has a track record of making money, why would you sell it just because there is some temporary bad news?

Don't forget a correction means the sales are on

When markets correct that is another way of saying everything is on sale! If you convinced yourself to buy a fund 6 months ago when it was priced at $2 why would you think it is a bad idea when it has gone to $1.80? In fact the best returns often come to investors who buy into fundamentally sound sectors on short-term panic or superficial bad news: "points of maximum pessimism". It makes more sense to sell on massive price rises and inflows which are not justified by fundamentals: "points of maximum optimism".

Don't react to short-term losses: they are normal

You knew it all along: high reward comes with high risk. But when you see volatile markets it's easy to forget this maxim. The only reason you will get high reward (in the long-term) is that you have to suffer volatility and shocks along the way. If you are finding it difficult to experience market fluctuations then perhaps your portfolio risks were never appropriate for your risk appetite. Investments are too often expressed as "I want to make money". A better way is to ask: "How much am I willing to lose?". For example, if you hate to see your portfolio down by 20% perhaps you should be holding more in safe assets like a money market fund. Warren Buffett even said: "Unless you can watch your stock holding decline by 50% without becoming panic-stricken, you should not be in the stock market."

Don't believe all the bad news

The market is a mixture and balance of optimists and pessimists. There will always be some optimists and always some pessimists. In certain times the pessimists get all the headlines. Of course, sometimes the bad news is real, and the market does need to adjust its prices downwards. But there can be positive surprises too. The best way to average out the bad and the good is to have a long investment horizon. Nobody really knows what returns you will get over a short period. But your chances of making money get higher and higher the longer you can wait. Historically, over 10-year periods the chances of making money on stock markets approaches a 90% probability or higher. In the long-run the good news wins over the bad news.

Don't bet everything

Have you organised your portfolio? Generally we recommend you manage your investments in three distinct portfolios, each with increasing levels of risk. The first part is for emergency savings: liquid and safe, perhaps covering six months of salary. The second, main part is for core investments: savings for retirement, wealth accumulation or other long-term goals. The last part is speculative: short-term investments for taking advantage of market opportunities. Only this third part should be with money you can afford to lose. The rest of your portfolio should be low risk, or at a risk low enough that you don't lose sleep at night. Managing your money this way builds your immunity to panic. It is worth remembering even modest annual returns of, say 3-4%, can be very rewarding when compounded over many years. No need to aim for 20% annual returns.