Volatility is Back!

When you read the definitions of volatility in Webster’s Dictionary, the emotions that investors might be feeling during the recent return of volatility in the markets becomes clear. While the word comes from the Latin word Volare which means to fly, the common definitions include “tending to erupt,” “difficult to hold permanently,” and “readily vaporizable.” Many investors who watch the markets closely (perhaps too closely) will acknowledge that these definitions could easily be used to describe what they have seen recently. The month of May has been challenging for stock market investors with wild swings in the markets and it is important for you to take a step back and understand how you react to and deal with these events.

            While human psychology would suggest that it is a normal reaction to try to prevent damage from such events, there is not much you can do to avoid downturns or take advantage of sudden moves in the market. A recent WSJ article outlined the dangers of stop loss orders and their unintended tax consequences (You can access the link here but it might not be available to non-subscribers).  Much of the recent events may be driven by concerns over Europe and the growing debt worries in Greece and other countries. Here in the US, as well as in many other countries around the world, we continue to see signs of positive economic activity, although there are still plenty of areas for concern. 

            As we have always stressed, keeping a long term perspective is critical. Anytime we see the market rise by as much as it did from the lows of March 2009 to the highs earlier this year, you need to make sure your asset allocation is still in line with your targets. Market corrections are a normal part of the investment process. They can also work to your advantage; here are a couple of thoughts along these lines:

1. If you are dollar cost averaging into the stock markets, investing in a downturn is essentially buying more shares when the prices are down. Putting money into your 401(k) or other stock mutual funds on a regular, periodic basis is an example of this strategy.
2. We have talked about the potential benefits of doing a Roth conversion. If you do this when your IRA or other retirement account is down in value, there is less tax due on the conversion.
3. Making gifts to move wealth to younger generations is a tremendous wealth transfer and estate planning mechanism. Doing this when values are down moves that much more wealth and creates more growth when asset values turn around.
4. If you have employer stock options, these kinds of swings in value may create the opportunity to exercise options and with much lower tax consequences.

            It is hard to not be shaken by this kind of volatility in the markets. However, if you keep a long term perspective and don’t let yourself get caught up in the day to day swings that you do not have any control over, you will end up ahead in the long run. In fact you might even be able to add some value to your planning by utilizing some of these strategies to help you reach your personal financial goals.