As the first snowstorm of the season approached this week, I was ready.
I had positioned the snowblower for easy access and made sure it was ready to go. I brought out the long johns and the cold-weather gear. My heavy boots were in the closet where I keep them, standing at attention. I had cocoa ready to go for when I came in for a warm-up.
The last thing I expected when the snow fell was to learn a life lesson, but that’s precisely what happened as I prepared to go outside.
Imagine my surprise when I put my right boot pretty much split in half as I tried to put it on. My trusty old boots had apparently dry-rotted and split since their last outing of the winter; the uppers on both boots were split and/or separated, leaving gaping holes.
The life lesson: On warm days, even a bad boot looks fine in the closet. The wrong time to find out your boots leak is when you’re about to go out in heavy wet snow that’s above your ankles.
I got the driveway plowed – and expect to have new boots by the time you read this – but the inconvenience and discomfort was real.
The storm was short and relatively easy to overcome.
I don’t think that’s what anyone should expect from the next storm we see on the stock market, and yet most investors are treating their portfolio the way I treated my boots, thinking they’re fine for what’s ahead without really checking.
It’s ironic that investors have that sentiment right now because a year ago at this time the market was melting down. The Standard & Poor’s 500 dropped more than 9 percent in December alone, and that included a rally late in the month.
The S&P was off over 6 percent for the year, and the only thing that saved a lot of investors from themselves was that they were so busy with the holidays that they weren’t watching much of the market action; once they did see what had happened, the market already was rallying, quelling their nerves and enabling them to enjoy this year’s market profits.
Those investors whose portfolio was underpinned by leaky boots didn’t wind up complaining – or changing anything — because the footwear wasn’t tested again as the market swung back to sunny days without forcing another demonstration of where an investor’s preparations were lacking.
This year, the market had investors nervous in the late spring and summer – and it is easy to find money managers concerned about trade wars and election-year politics and more – but consumers have been diving straight into the idea of continued good fortune.
Individual investors’ exposure to stocks reached a seven-month high in November, according to the latest survey from the American Association of Individual Investors. Investors currently are allocating two-thirds of their portfolios, on average, to equities, the group said, and short-term optimism for November was above-average according to the results of another AAII poll.
If you consider that typical pre-retirement investors will have a portfolio that loosely resembles a balanced fund or a conservative asset allocation for the middle-aged saver, you’d expect allocations to always be roughly 60-40 stocks to bonds. If the current standard, as measured by AAII, is 67 percent of a portfolio in stocks, the typical portfolio is out of balance, with winners having run and now making up more of the holdings that likely intended.
So long as the market keeps going up, that strategy looks and feels great.
Yet each day, the portfolio becomes less prepared for a snow day.
If and when the market takes a significant downturn again, a lot of investors will feel the cold.
Yes, many experts are forecasting that any prolonged slump won’t happen for another year or more, but those predictions are like weather forecasts, not always accurate. Moreover, even if the forecast is spot on that doesn’t solve the leaky boots problem.
Investors should be finishing 2019 by remembering how they felt in 2018, when the market had turned and it didn’t look like Santa Claus would come for a rally.
The freefall was so fast that most individual investors didn’t react, which turned out to be the right move by dumb luck.
Consider a simple question: “What move would you make if the market lost 5 percent tomorrow, and then another 5 percent over the next few days?”
Follow that with “And if the decline then was extended by 5 to 10 percent per week for another week or two?”
At what point would the pain of that kind of decline hit you hard enough that you would act?
That’s the point where your feet are getting cold, and where you’re going to wish you had prepared to be warm.
Rebalancing the portfolio – culling your winners, reinvesting the proceeds into the laggards to get back to your allocation targets – might be the protection you need, or it might be that diversifying into international stocks, gold, or even keeping some powder dry in cash helps you think you can weather a storm.
Ultimately, you may just do a portfolio review to conclude that you are well-positioned. Even that knowledge will help when faced with a big swing in the market. It’s like knowing that your boots, unlike mine, really are ready to go.
Whatever move you make – or don’t make — the idea is to do it now, so that when any market storm hits, you are truly prepared. Don’t fool yourself; if you don’t have a plan for the next downturn, you will have trouble weathering the storm.
Knowing that lets you fix it ; don’t wait until you see the snowflakes to do it.