Stock Market Declines are Normal

Stock Market Declines are Normal

By Scott Dawson, MS, CFP®

I regularly attend conferences and presentations about various financial planning topics. At a recent conference, I was reminded of some statistics about historical stock market declines in a given year. The stock market, on average, will have at least three 5% declines and one 10% decline in a year. Every three years, the stock market will decline by at least 20%.*

To put these declines into perspective, if an all equity investment account is valued at $500,000, a 5% decline is $25,000, 10% decline is $50,000, and 20% decline is $100,000.  In 2008, the S&P 500 was down 37%, which is a $185,000 decline in our example.**

What does this mean?

Stock market declines are normal and expected. If the market goes down by 10% or even 20%, my thought is stocks are 10%-20% cheaper than they were.  I’m a long term investor and I need to tolerate the fluctuations of the market to earn the higher rate of returns that stocks have historically offered above fixed income, which fluctuate much less.

No one can consistently predict when stock market declines will occur and how long they will last, but it’s comforting to know that declines have been temporary. Historically the stock market has always recovered. Maybe the next decline will be different, but history is on our side.

An approach to deal with the ups and downs of the stock market is to determine an asset allocation that allows you to stay the course. An asset allocation is the mix of stocks, bonds, and cash in your portfolio.  It’s important that your asset allocation is based on your goals, risk tolerance, and time horizon. If normal stock fluctuations make you uncomfortable, then adding more fixed income will dampen the ups and downs of the market. Abandoning your investment strategy because of fear, the market going down, or greed, the market going up, has not been kind to investors’ long term financial health.

*Source: American Funds

**Source: Morningstar

All investing involves risk, including the loss of principal. Diversification and asset allocation do not guarantee a profit, nor do they eliminate the risk. Past performance is not indicative of future results. Investors should work with financial professionals to discuss their specific situation and investment goals