THE 2018 CORRECTION – A GIFT TO INVESTORS

Every year I do two days of recurrent flight training to remain proficient in my airplane. During the training, the instructor will simulate potential emergencies to see how I react. For example, he may pull a few breakers causing various instruments and systems to fail. If I am able to fly the plane safely under simulated stressful conditions, I have a reasonable expectation to be able to do so in a real emergency. If not, then additional instructions will be given.
 
I’ve often thought it would be nice to create a similar scenario for investing where a portfolio could be stress tested to see how it might survive a crisis. I would also love to see how the investor might handle a challenging situation.
 
As I thought about this recently, I realized that investors were actually given a great training experience during the final quarter of 2018 when the Dow Jones Average fell about 15%. Like a simulated crisis, this market dip was an opportunity to see how your portfolio might perform in a more serious market crash.
 
So, my question is, how did you do? How did your portfolio hold up under the pressure? Did it lose value and if so, how much? If you own stocks, those positions almost certainly went down but did you have other investments that went up, offsetting the losses? By honestly looking at how you did, you will get a good idea if you need to make changes before a real crisis hits.
 
In my responsibility for other peoples’ investments I have set standards that I follow that I will share here. (These are general guidelines as individual needs will vary.) When the Dow falls, I want to limit a retirees’ portfolio downside to no more than 1/3 of what the Dow lost. So in this case that would be no more than a 5% dip. Protecting the downside, positions the portfolio for a quicker recovery and is one of the keys to successful portfolio management. On the other hand, there may be some portfolios that did not go down at all. In this case the account may actually be allocated too conservatively. For most people a portion in stocks makes sense for long term growth.
 
The other area to look at is your emotional state. If you were overly stressed during the fourth quarter that may be a sign you need to reduce your risk level. Now is a perfect time to make that assessment.
 
My annual flight training is an extremely useful tool in preparing me to be safe if a real crisis occurs. This recent market dip can also be very valuable in evaluating how your investment portfolio would handle a real disaster. Take some time to review how you did and make adjustments if needed. A real crisis will come one day and when it does, this training period will be a great benefit if you use it wisely.