It’s been a challenging year so far in 2022 with both stocks and bonds down sharply. This adds to the wall of worry for investors as we are also witnessing high levels of U.S. inflation, an aggressive Federal Reserve, Chinese lockdowns, and continuing war in Europe.
When the market drops, some investors lose perspective that downtrends and uptrends are part of the investing cycle, and over time stocks do come back. When stock prices do break lower, it's a good time to review common terms and patterns that are used to describe the market's downward momentum.
Pullbacks
A pullback is the mildest form of a selloff in the markets. These range of moves are common during a typical market year. Most investors or traders refer to a dip of 5-10% after a peak as a "pullback."1
Corrections
The next level in severity is a correction. If the S&P 500 index, for example, drops 10% to 20% off it's recent peak, this is called a correction. At this point, you’re hoping to avoid the next tier down.
Bear Market
In a bear market, the decline is 20%, or more, off the recent market peak. This is usually what is referred to as a "crash".
Risk
There is no way to avoid drops when investing in the financial markets.
However, there are strategies with the goal of minimizing the large draw-down risk that can happen to your investment portfolio. This is an area that I help clients with.
But at a minimum, you should use the tried and true basics: make sure the risk in your investment portfolio matches your personal risk tolerance. Use proper diversification, and keep your portfolio updated for changing market conditions. Avoid owning more than 10% of your liquid net worth in one common stock - this includes stock through company options (like ISOs, RSUs, ESPP, etc).
5 Star Tip: company stock options involve taxes, sometimes AMT. Get professional advice (from someone like me) before exercising and selling shares. It's easier to avoid a mistake than it is to fix one!
It's normal
These pullbacks, corrections, and bear markets are a normal part of the investing cycle.
When stock prices are trending lower, some investors can second-guess their risk tolerance. But during periods of market volatility can be the worst time to consider portfolio changes.
Pullbacks and corrections are actually pretty common and happen almost every year. Bear markets are more rare. Since April 1947 to September 2021, there have only been 14 bear markets.3 That translates into about every 5 years on average, give or take. We may add 2022 to that list, stay tuned.
When you create your retirement plan, it should be formed with market volatility factored in. I help my clients make any adjustments and any necessary decisions along the way.
If you are looking for help in managing the risk of your portfolio, email me to see if I can answer any questions.
John Piershale, CFP®, AEP®
1. Investopedia.com, August 23, 2021 2. Forbes.com, September 20, 2021 3. Investopedia.com, October 29, 2021
John Piershale Wealth Management, LLC is an Investment Adviser registered with the State of IL and in other jurisdictions where exempt from registration. All views, expressions, and opinions included in this communication are subject to change. This communication is not intended as an offer or solicitation to buy, hold or sell any financial instrument or investment advisory services. Any information provided has been obtained from sources considered reliable, but we do not guarantee the accuracy or the completeness of any description of securities, markets or developments mentioned.
The information contained herein is intended to be used for educational purposes only and is not exhaustive. Diversification and/or any strategy that may be discussed does not guarantee against investment losses but are intended to help manage risk and return. If applicable, historical discussions and/or opinions are not predictive of future events. The content is presented in good faith and has been drawn from sources believed to be reliable. The content is not intended to be legal, tax or financial advice. Please consult a legal, tax or financial professional for information specific to your individual situation.