The stock market tends to go up in the long-run. However, this secular bull trend over time has been punctuated by bouts of bear markets and volatility, some of which have been substantial and difficult for investors to face.
Volatility refers to the speed at which prices move in the market, often associated with large swings in either direction. Volatility refers to both the upside and downside movement of an investment.
Whether markets are currently turbulent or else in a period of prolonged market calm, financial advisors and planners ought to be proactive and talk to their clients about market volatility. In this article, we discuss what investors and advisors alike can do to help clients weather choppy markets.
- As an advisor, there will undoubtedly be times when the markets turn sour and your clients lose money.
- Market volatility can be hard for clients to reckon with, so it is crucial that you be a good listener and communicator to help them keep their emotions in check.
- Encouraging clients to stick with their financial plan and to understand that short-term blips will often smooth out over longer time horizons can keep everybody with a level head and reasonable expectations.
- As markets grow, losses in terms of dollars become less valuable; a $100 drop in the S&P 500 today is a lot different than a $100 drop in the S&P 500 20 years ago on a percentage basis.
- Good advisors will have mentally prepared their clients for volatility before it happens as well as made sure their client's holdings were appropriate.
Be a Good Listener
When markets are performing poorly and portfolio values have plummeted, your clients may have unrealized losses equal to years of saving. Their goals and dreams may be further away than ever for them to achieve.
It's important to reach out to all of your clients during volatile economic conditions. You should also identify which of your clients are more at risk—or worried—about market swings. Let your clients know that you're available to talk if they have any concerns. This is also a good time to schedule meetings to review their portfolio and their situation.
This is not the time to wax on about asset allocation and standard deviation or fall back on technical descriptions of recent market gyrations. While those are important (and part of the reason your clients hire you), conversations during periods of volatility are about the human element. This is the time to be a good listener. Let your clients tell you how they feel. What fears or concerns do they have? Sometimes what you hear may surprise you. That client who always seems cool and calm about the markets may not feel that way this time.
Listening to your clients during volatile conditions also opens the opportunity for you to gather information to strategize about their portfolio in the future. Was your client up all night worrying about their money? Their portfolio may be equity-heavy. Is your client excited about buying opportunities while prices are lower? Their portfolio might want dry powder on hand for the next dip.
Take a Long-Term View
Periods of market volatility are a good time to remind your clients of the benefits of thinking long-term and the potential pitfalls of making investment decisions based on emotions. The news was full of sad stories of investors who sold at the bottom of the market during the financial crisis of 2008-09 only to miss out on one of the strongest bull markets in history.
A good question to ask a client looking to reduce their exposure to stocks is, "If we sell now, when will you get back in?” While most clients understand that it's nearly impossible to time the market, most have trouble squaring the data with their emotions.
Depending on how long you've been working with your clients, show them how their portfolio has performed since they started investing. Sometimes focusing on a decade-long investment period makes the drops less meaningful. There's a reason why investors often suggest to "zoom out" when looking at charts; chances are, over the long-term, the value of a security or index fund has increased over a long enough timeframe.
Keep Things in Perspective
While some recent declines in the Dow Jones Industrial Average may have been in the hundreds or even topping one thousand points, as the index price has risen over the years, these large-point moves become less significant on a percentage basis. Thus, when the index level is 30,000 a 300 point drop is only a 1% move. The same 300 point drop, had it occurred in the year 1999, when the Dow was at 10,000 would have resulted in a more substantial 3% loss.
Different investors will have different mindsets especially when it comes to unrealized losses. Some may see a 10% drop in a stock and worry about what is causing the company's value to fall. Others may see a 10% drop and see a great buying opportunity. These two groups of people are seeing the same exact price movement; the only thing different is their perspective on how they view the price action.
Helping clients to keep the current market news in perspective is important, especially during periods of volatility.
Focus on Their Plan
Periods of volatility are a good time to meet with clients to review their overall situation. Show them how the current swings were factored into the planning that you have done with them. Provided that it is true, show them how they are still on track towards their financial goals and that their asset allocation is still appropriate. Being a good advisor isn’t about reacting to the changing stock market conditions. Good financial advisors factor in potential volatility as a potential impact on their client's portfolios.
Your review should focus on how their portfolios are positioned. Ideally, once volatility has begun occurring, your client's portfolios will already have captured prior gains. However, if your clients believe there is too much risk in their investment holdings, it may be appropriate to shed volatile assets at your client's request.
When deciding what to buy or more importantly sell during volatility, make your clients aware of the long-term ramifications of their actions. Shedding a risky asset may feel good in the short term, but realizing you sold a high-potential asset at its lowest price is another matter. It's your job to ensure your client remains true to their long-term financial goals - whether or not to shed portfolio risk is simply a byproduct of following the long-term plan.
Financial advisors and clients can't predict the market and can't influence the market. All you can do is have prepared as best you can. Therefore, be prepared to advise your client that it is impossible to time the market and as ideal as buying low and selling high is, hitting the actual peaks on both sides is incredibly unlikely. It's fair to be distracted by short-term opportunities, but do not let them detract from the ultimate goals.
What Is Stock Market Volatility?
Volatility in investing refers to rapid changes in an asset's price. Though it could refer to quick price increases, volatility is often discussed when viewing an asset's downside. Investments that are more volatile experience great changes in their value compared to less volatile, stable investments.
Is Volatility Good?
Volatile assets gain or lose value quickly. There may be more buying or arbitrage opportunities with volatile assets, though they may not retain their value and are considered riskier investments. Securities with higher volatility often compensate investors with greater returns in exchange for bearing higher risk.
How Do Financial Advisors Handle Volatility?
Financial advisors must appease the emotions of their clients during difficult markets. Good advisors keep their clients focused on their long-term goals and do not get distracted with short-term price fluctuations. Advisors must be empathetic, opportunistic, and caring during periods of volatility.
The Bottom Line
Periods of volatility are really when you earn your money as an advisor. It's easy to tell someone their portfolio is doing great; it's a different conversation when they're in the red. Sometimes providing advice is as much about managing client behavior as it is about asset allocation and retirement projections.
If your clients are fearful, it's because you haven't communicated with them enough, and you haven't done your job of educating them properly about market fluctuations and volatility. Even if your clients understand that there are inevitable risks that cannot be mitigated, they want to be reassured. If you don't reach out to them, someone else will, and you may lose a client in the process.