The U.S. stock market has not had a 10 percent correction since November 2015. Normally, we have this type of moderate correction once every year, and a 15 percent correction in the stock market every two years on average. A bear market is defined as a 20 percent correction of the stock market, and statistically, that happens once every three years.
The reality is, we haven’t had a 20 percent correction since 2008. We are in one of the longest bull market runs at 106 months of upward movement. The worst performance we saw last year was a short-term loss of 2.8 percent over a two-week period. Historically, 2 percent daily declines in the stock market are relatively common. Then on February 5, 2018, the Dow Jones Industrial Average plunged 4.6 percent, and the S&P 500 Index dropped 4.1 percent.
Depending on your stage in life, this dip should not be a cause for panic. A stock market decline isn’t necessarily a bad thing. In fact, it creates a prime opportunity to buy. We are looking at 2017 fourth-quarter earnings for the S&P 500 companies to come in up 15 percent. Inflation is below 2 percent with unemployment at 4.1 percent. How much better can it get?
If you won’t need the money out of your portfolio in the next 10 years, there is no better place to invest than in stocks or real estate
This is where Henssler Financial’s Ten Year Rule becomes so important. Our philosophy states that if you’re going to need the money in the next 10 years, don’t put it in stocks. Murphy’s Law has shown time and again that when you need the money, the market will be down. If you know you will need the money, whether it is for living expenses, a college education, or a home purchase, your priority is to protect the principal. We recommend high-quality fixed-income securities to cover your next 10 years of liquidity needs. We recommend the purchase of fixed-income securities, such as U.S. Treasury securities, CDs, or high-grade municipal bonds, that have maturity dates and amounts that correspond to your liquidity needs; however, in our low-interest-rate environment, we recommend keeping your maturities short. When the short-term bonds come due, hopefully, you should be able to reinvest at a higher interest rate.
With 10 years of uninterrupted income provided by the fixed-income portion of your portfolio, what do you care if the market dips 4 percent today? Our clients, who are living off their investments, understand that they are not pressured to sell investments at low levels; rather, they have time on their side and can wait for the market to recover.
If you won’t need the money out of your portfolio in the next 10 years, there is no better place to invest than in stocks or real estate. The difference between the two is that stocks are completely liquid. While you can’t sell your home, an investment property, or a plot of land quickly, you very likely can sell your shares of Coca-Cola today.
We believe that time can take care of you just as much as picking the right investments will. The reason we employ our Ten Year Rule is fairly simple. In history, there have been 83 rolling periods of 10 years since 1925. Within those 83 periods, there have only been two 10-year periods of time where, if you had thrown all your money into the stock market at the beginning of the period and taken it out at the end, you would have lost money. Put differently, history shows large company stocks have experienced gains 98% of the time when you have a 10-year investment horizon. While past performance is no guarantee of future results, our Ten Year Rule is what gives you the opportunity to wait out a depressed market.
The stock market is the one place in America where people want to pay full price. People want to sell when it is down and buy when it is high. This is counterintuitive. The people who end up making the biggest financial mistakes are the ones who stray from the plan they’ve put in place due to fear. Remember: Stock prices can and will change, but if you have the flexibility to wait, the value of your shares will likely return.
My advice will always be: When there are disruptions in the stock market, don’t watch it. While the market matters, it doesn’t matter today. If you don’t need the money within the 10-year allotted time horizon, continue with your plan. We essentially do nothing in poor markets; we are not forced into selling because we have built in time buffer and can afford to wait out the downturn. Our plan is the Ten Year Rule, and especially during tumultuous times, we stick to it. As active investors, market corrections offer opportunities to buy because you may be able to pick up good companies at attractive prices.
By following our Ten Year Rule, your asset allocation should be specifically geared toward your unique needs. We believe allocating your portfolio holdings between stocks and bonds according to known spending needs is a better method than simply plugging your age into a formula.
William G. Lako, Jr., CFP®, is a principal at Henssler Financial, a financial advisory and wealth management firm that has been delivering comprehensive financial solutions to its individual, corporate, and institutional clients for 30 years. Mr. Lako is a Certified Financial Planner™ professional.