MBR Financial Logo

Musings and news from MBR Financial

Crisis Proportions: Reacting to Market Downturns

September 2011

The market has been trending downward since July. You've see your account values drop for a while, but in the past few weeks the pace has increased. The headlines are becoming more sensational as the media fuels the fear — Markets Swoon On Recession Fears (1) is enough to unnerve most people.

Your anxiety increases as you follow the markets no longer month-to-month, but hour-to-hour. News about Greece and the Fed become your daily topic of conversation at the water cooler and dinner table. What if we go back to the lows of August 2010 (10,000 on the DOW) or worse yet—the lows of March 2009! What happens to your 401Ks that were getting close to recovering from 2009? You don't want to lose it again. So, what should you do?

Anxiety is a funny thing. As it consumes your thoughts, you lose your ability to think clearly, to put facts into perspective. Common responses to such stress can be flight, fight or freeze.

FLIGHT

For some, the anxiety is so uncomfortable that they need to act. They call their advisor and order that their investments be sold.

FIGHT

Some choose to fire their advisor and replace him or her with another, or to handle their investments themselves

FREEZE

Others shut down and do nothing. They can't deal with the anxiety, so they cope by ignoring the problem.

All three of these are automatic responses, and you’ll find yourself consistently favoring one over the others when you face highly stressful situations. Of course, there are consequences to each.

  • The "sell everything" strategy can work if the market continues to go down AND if you have the nerve to re-enter the market at the lower levels. But most people sell at the apex of pessimism (the bottom), after which time the market turns up. Those who sold are often too fearful to buy back until the market has moved significantly higher, locking in a permanent loss.
  • An anxiety-driven decision to switch advisors seldom results in a well-thought out strategy change. The change may make you feel good for the moment, but the new strategy is likely to be overly conservative—in reaction to your discomfort—and may cause you to fall short of your objectives.
  • You may consider the freeze reaction the most desirable, since you'll ride through the market's hard times and be there when it recovers. Alas, this may not be true. While wholesale changes may not be appropriate, freezing may cost you the opportunity to make timely adjustments that could mitigate the downside and position you for a quicker recovery

While no one is immune from automatic responses, recognizing your own patterns can help you control your anxiety. One of the most effective means of reducing anxiety, whether caused by the stock market or a family crisis, is to maintain an open relationship with the people around you, such as your advisor and your family. An open relationship is one with optimal communication marked by thoughtful, nonreactive give-and-take of ideas with each party really listening (2).

Thought-based (as opposed to feeling-based) conversations center on facts, like reviewing your investment objectives, timeframe and strategy.

  • Have your objectives or timeframe changed?
  • Is your strategy consistent with the long-term outlook for the market?
  • Is there a floor or minimum threshold that your investments cannot fall below?

Together, explore the options and potential outcomes. Decide what changes, if any, are appropriate. If you establish an exit strategy to maintain a floor, be sure to put in place a re-entry strategy so that you can participate in the recovery. Similarly, if you reduce risk in your portfolio because of unfavorable market conditions, you should also set in place a plan to recognize when you should increase risk so as to take advantage of market recoveries. A thoughtful, forward-looking analysis of market conditions that takes into account your overall financial situation will result in better financial decisions.

By maintaining open relationships, you can keep your investment objectives, timeframe and strategy current, making you less likely to swoon next time the market does!

Citations:

1. Wall Street Journal.September 23, 2011

2. Extraordinary Relationships: A New Way of Thinking About Human Interactions, by Roberta Gilbert, 104-110. John Wiley & Sons, Inc., 1992