First off, what is a volatile market? Volatility is best described as the ups and downs of a market. These ups and downs are typically include irregular price fluctuations and increased trading.

However, except for the very obvious catalysts, like a natural disaster, there are no consensus views on what actually causes market volatility. We do know that volatility exists as a part of the stock markets natural cycle and as such every investor has developed their own way of dealing with it.

Any financial advice on the stock market should be taken with a few grains of salt. You should always use your best judgment. Stock prices have a tendency to fluctuate suddenly so it isn’t always wise to invest in the new “stock of the week.”

Secret #1 – Market Downturns are Natural and Inevitable

Don’t panic! Fluctuations in the market are a natural part of the economic cycle.

“On average, the stock market suffers a bear market — defined as a drop of 20% in major indexes, such as the S&P 500 — every four or five years. During an average bear market, the S&P loses about 25% of its value. It usually takes 11 to 18 months for the market to hit bottom.” ¹

If you are invested for the long-term you shouldn’t worry about normal price cycles. This doesn’t mean keeping stocks in a company that is about to go under.

The best advice is to make minor adjustments to your portfolio and wait it out. The stock market tends to recover almost as quickly as it drops. Cashing out your investments would only be reasonable if your time horizon is short-term and you are in need of the money now.

Secret #2 – Keeping Your Portfolio in Check

When the market is headed for a downturn it may seem easier to cash out and go home, but before you do that you may want to consider your long-term goals for that money.

Will you still be able to accomplish goals such as retiring with ‘X’ amount of money if you get out of the market now? Even though you may suffer some losses in the short-term, in the long run you will be better off if you stay in the market.

“The temptation during any down market is to play catch-up, to try to recover as quickly as possible. The problem for many investors is that you’re not the same investor today that you were when the market was booming. If the market makes you adjust your habits and expectations, better to do that early, when the choices are clear and easy, than to wait longer, when the possible choices and problems could get worse.” ²

Your risk tolerance, as an investor, is the amount of money that you are comfortable with losing. Risk tolerance usually depends on the investor’s age, current income, time horizon and goals. For instance, an 80 year-old retired widow will have a much lower tolerance for risk than a single 35 year-old doctor who has twice the amount of time to rebuild their wealth.

To find out what type of investor you are visit http://www.strsoh.org/pdfs/ibbotson.pdf.

Secret #3 – The Market Timing Myth

Market timing is when investors try to predict the direction of the market. They use various methods to do this such as historical data, technical and economic indicators. Certain investors believe that market timing is possible and they are called “active traders.” Active trading is proven to result in much lower overall returns, mainly due to the taxes associated with frequently buying and selling securities.

Trying to time the market is not fool-proof or even practical. Market timers have a hard task. They have to accurately predict when to get out of the market as well as when to get out.

The length of time you are in the market can have a big impact on your portfolio. Don’t wait around for the “perfect” time to buy, because you may miss your real opportunity. Trying to time market fluctuations is a near impossible task. A sound strategy usually involves sustaining a long-term horizon.

Secret #4 – Focus on Quality

Instead of selling all your invested assets, it might be better to reduce certain areas and to look for higher quality stocks and bonds.

The chart below shows the different credit rating symbols for Standard and Poor’s and Moody’s issue. Investment grade means that the security being rated has a certain level of quality. “AAA” is the highest quality credit rating, and C or D is the lowest credit rating depending on the agency. Anything in the non-investment grade range are considered to be “junk” or high risk investments.

	Standard & Poor’s	Moody’s
Investment Grade:
High Grade	AAA – AA	Aaa – Aa
Medium Grade	A – BBB	A – Baa
Non-Investment Grade:
Speculative – High Yield	BB – B	Ba – B
Default	CCC – D	Caa – C

For mutual funds, one method for quality control is to look at the manager tenure length. It is a good idea to steer clear of mangers that do no have a lot of experience. Try to look for managers with at least 5 years of experience. That way you know that they have actually been through a market downturn. Also, managers that have a longer tenure period tend to be more consistent in their investing strategies.

You can find information about your fund manager by searching for the fund at http://finance.yahoo.com/ or http://www.morningstar.com/.

Secret #5 – Diversify, Diversify, and Diversify

This is not really a secret. In fact, it is common financial advice. Not putting all your eggs in one basket is especially important during a market scare. Always remember the rules of thumb for basic investing!

There are some small changes that you can make within your portfolio to help diversify your portfolio during a market downturn. In a more volatile market large companies with a small amount of debt have a better chance of withstanding the market downturns as opposed to smaller companies. Therefore, reducing the percentage of small-cap equities could help lower your portfolio risk exposure.

Another thing you can do is to increase the percentage of your stocks that are invested in global and international markets. This will help maintain a balance when the US economy is going through a rough period.

Don’t forget to make sure your portfolio stays well within your risk tolerance level. After all, you want to be able to sleep comfortably at night!

Secret #6 – Dollar Cost Averaging

Dollar cost averaging is a type of investing strategy that reduces your exposure to the risk of making a large lump-sum purchase for your portfolio. It works by spreading out your purchases over an extended period of time.

The idea is to spend a fixed dollar amount each month or quarter on a specific investment or part of a portfolio regardless of the share price. This means that you will purchase more shares when prices are low and less shares when prices are high.

For example, if you decide to spend $500 each month on purchasing shares you will only be able to buy a few shares if the price is $100 per/share. However, if the price goes down to $50 the next month you will be able to buy twice as many shares.

By making smaller purchases over a longer period of time, your cost basis or the amount you pay for a security is spread out providing a cushion against normal market price fluctuations.

Secret #7 – Find the Right Financial Advisor For You!

There are several different types of financial advisors that are available to you. A good advisor will help you to meet your life-long goals.

You should be skeptical of advisors that make unrealistic promises to “beat the market” and to provide you with “above average” returns. These types of promises are a ploy used to get your business.

Knowing your planner’s exact job title may help you tell whether he or she is a fiduciary. A “fiduciary” is a professional who is 100% committed to putting your financial interests ahead of their own. Stock brokers (also known as “registered representatives”) or insurance agents are allowed to put their own interests, or those of their firm, ahead of yours.

Independent, fee-only financial advisors provide customized advisory services for a flat fee, an hourly rate, or a percentage of the assets being managed. This method of compensation means the advisor gets paid for providing professional advice on reaching your goals, not for activity in your account.

Full-commission brokers, on the other hand charge commissions or sales fees based on trading activity or product sales. Financial plans and investment recommendations from full-commission brokers are often product driven, raising conflict of interest issues.

In order to choose the best advisor for you, you should spend some time doing research on the financial advisors in your area. Some advisors have income or investment minimums that you must meet before they will work with you. You should be aware of these requirements before interviewing an advisor.

Other advisors specialize in different sectors such as retirement planning, asset management, estate planning, or business planning. If you are looking for an advisor to do a comprehensive plan you should make sure that the advisor is capable of helping you in each area.

Choosing the right financial advisor may be one of the most important decisions that you make for yourself and your family. Take the time to find someone who you are comfortable around and can trust.

Resources

¹ Goldberg, Steven. “Time to Sell Stocks?” Kiplinger.com 30 July 2007.  26 June 2008 <http://www.kiplinger.com/columns/value/archive/2007/va0730.htm >

² Jaffe, Chuck. “In Volatile Markets, Take Stock of Your Finances and Emotions.”    17 June 2008.  26 June 2008 <http://www.foxbusiness.com/story/markets/industries/finance/volatile-markets-stock-finances-emotionsindustries/.>