The stock market is off to a rough start in 2016. We have been here before, with last summer’s The Greek Debt Crisis & the Chinese Stock Market Sell-Off.
Stock market volatility is as natural as breathing, and corrections will happen. Since investors get paid to take risk, it’s best to keep focused on your investment time horizon, which varies for each person but is always longer than 5 years. If you can shut out the day-to-day noise of the financial media, you’ll probably sleep better—as long as you stay invested in a globally diversified portfolio.
Why a Globally Diversified Portfolio is Best
Holding both U.S. and international stocks in a globally diversified portfolio is important. Four slides explain why this is true.
In “Overcoming Biases Against Global Stock Investing,” two graphs from mutual fund giant Vanguard illustrate that by owning stocks of many countries, your portfolio volatility decreases.
Several slides we use in our client education sessions are a good reminder of the big picture. In “Equity Returns of Developed Markets 1990-2014,” you can see there’s no consistency to the top (or bottom) performer. In fact, last year’s winners often rank in the bottom the next year or soon afterwards. The second slide shows the same 25 years of data stripping out all returns by year other than the top performers, bottom performers, and the U.S. In “Diversification Helps Take the Guesswork out of Investing,” a 15-year periodic table of asset class returns shows that one year’s stock market winner is usually not next year’s winner. In fact, last year’s winner often yields a return in the bottom half the following year.
Focus on What You Can Control
No one can reliably forecast the market’s direction or predict which investment will outperform. Here are some areas for focus (and how we can help):
- Create an investment plan to fit your needs and risk tolerance
- Structure a portfolio around the dimensions of returns (additional exposure to small cap and value stocks across all asset classes)
- Diversify broadly
- Reduce expenses and turnover
- Minimize taxes
And remember to keep a long time horizon in mind. Just like you won’t be spending all of your assets the year you retire, the portfolio needs to last a long time. With a longer time horizon, you can afford to weather the storms of market volatility.
While Vanguard is terrific for the retail investor, JLFranklin Wealth Planning uses institutional funds and incorporates strategies that allow our clients the opportunity for higher returns over long periods of time. We use enhanced index funds, which allow our clients extra exposure to the small cap and value segments of the investing universe; those markets are more volatile but have outperformed over the long term. Where it makes sense to do so, we use tax-managed funds to limit our clients’ tax burden. Tax-managed funds reduce dividend income and capital gain distributions (compared to non-tax managed funds).