What Are We Learning from this Market Meltdown?

One thing I have touched on before but maybe not written extensively on is the idea of continuing to learn about navigating markets. However well or poorly you have done in this bear market, there is a learning opportunity to try to improve during the next bear.

One thing that may have happened on this go around, and unfortunately this feels like a carry over from the last bear market, is too much exposure to equities.

That may seem like a contradiction from past posts but I don’t think so. In terms of numbers when thought of over long periods of time (three different decade long round trips to nowhere in the last 100 years shows long means more than ten years) 100% equities offers the best growth potential. If you have a reliable defensive strategy then all the better.

Unfortunately 100% equities does not offer the best potential for a good night’s sleep.

This is why asset allocation exists. It is a good bet that people have recently learned they have too much of their money in risky assets. Too much defined by the magnitude of the emotional response. Realizing you have too much in risky assets (this includes many segments of the fixed income market too) after a 40% drop is a bad place to be.

Beginning to take defensive action after a 40% drop is a bad idea unless you truly believe it is all going to zero, and while I hope no one thinks the bottom is zero, someone in those shoes needs to figure out a recover strategy if they do sell out now (again I hope no one does this).

The idea behind proper asset allocation is that whatever decline occurs it does not trigger a panic point that causes you to deviate too far from the plan you spelled out before anything bad happened.

Over the years of blogging many comments/questions have been left about various high yielding things (equity, bond or in between). My answer is almost always the same. A 10% yield in a 2% world carries some risk, you (the person asking the question) either understand the risk or you don’t.

There is nothing wrong with owning a high yielding something or other that has cratered since you bought it. The problem occurs when you own too much of that thing or too much of that thing along with other similar things. And hopefully anyone in this situation has a better understanding of the rationalization that the high yield will make up for the decline. A 10% yield doesn’t do much for a 40% decline especially if there is then a dividend cut.

This sentiment obviously ties in with my theme of moderation when selecting what to own in a portfolio. The lessons about too much exposure to something that we learned from 2000 should not be forgotten but there are risk junkies who cannot help themselves.

About Roger Nusbaum 169 Articles

Roger Nusbaum is an Arizona-based financial advisor who builds and manages client portfolios using a mix of individual stocks and ETFs. Roger writes a popular blog, which focuses on risk management, foreign stocks, exchange traded funds, options etc.

Roger has been recognized by many in the investment management industry for his expertise in portfolio management. Roger has been regularly interviewed by the financial press, trade journals, and television news shows. He has also had numerous technical articles published and has been quoted in a number of professional trade journals, newspapers, and consumer finance magazines. He appears frequently on CNBC Asia as a market commentator.

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