Lessons from 2020
Investors experienced an unforgettable roller-coaster ride with the stock market in 2020. Within a 12-month period the U.S. stock market had ended the longest bull market in history, experienced the shortest bear market in history and then went on to set new all-time highs toward the end of the year.
These swings in the market caused a whirlwind of emotions for investors and reminded us of some important lessons with investing.
One of those lessons is to tune out the noise. This can be easier said than done for investors. We are surrounded by information in today's world. Most of us carry a cellphone with us that can give us news updates with the swipe of a screen. This causes investors to lose focus on the long term.
Last year was a unique situation with the COVID-19 pandemic. However, many would argue that throughout history the market has faced new challenges and has still provided healthy returns to long term investors. A look back at 2020 was a good reminder of this.
At the end of the first quarter, the economy came to a screeching halt, people hunkered down and businesses closed. Things did not look good and the stock market reflected it as it was down as much as 34% in March 2020.
However, the market is forward looking, and investors saw light at the end of the tunnel. As second quarter started, the market started to regain its losses from the first quarter. That recovery continued throughout the year and the market finished the year with a double-digit gain.
Investors who reacted to the bad news and sold their investments in the first quarter were unfortunately reminded of the difficulties involved in timing the market, and many were forced to buy back at higher prices.
Last year also reminded investors that liquidity matters. Proper financial planning should include liquidity needs for the known and unknown. This helps you maintain your long-term investment plan without disruption.
If you misgauge your liquidity needs, you can end up selling at the wrong time as a consequence. We saw this when the pandemic began to spread and the unemployment rate spiked, investors were liquidating assets to cover their short-term liquidity needs. As a rule, couples should hold at least 3-6 months' worth of spending needs in a short-term, liquid account like a money market or savings account.
Rebalancing and long-term investing lessons were revisited in 2020. Your investment portfolio should be built around your own unique goals, risk tolerance and time horizon. That becomes your target-asset allocation.
No matter what your asset allocation is, over time that allocation will drift with the fluctuating returns of different asset classes. When this occurs, you need to rebalance your portfolio to get it back in line with your target.
This should be done ongoing and not just in times of extreme volatility. The U.S. stock market experienced the longest bull market in history heading into the COVID-19 pandemic correction. If you had not rebalanced your portfolio for several years leading into last year's bear market, you would have been overweight equities and lost more than your original risk tolerance planned for.
On the flip side, when the bear market hit, your equity allocation was underweight its target allocation due to the steep drop in stock prices. This creates great opportunity to buy more equity at cheaper prices and have greater participation in the recovery.
These strategies align with a long-term investment plan. Last year many investors were harshly reminded of what they should do and what they shouldn't do with their portfolios. Creating a plan that incorporates discipline, risk capacity and liquidity can help smooth the path to achieve your long-term financial objectives.
If you feel unprepared moving forward, please give me a call. I'm happy to talk with you and help you decide on a course of action that is best for you.
• John P. Daly is the founder of Daly Investment Management LLC, a registered investment adviser specializing in wealth management and retirement planning.