Essential Tips for New Investors Facing Market Volatility

After months of research and saving, you have finally invested your hard-earned money in the stock market, excited to watch your nest egg grow. 

But then it hits – a sudden plunge in the market.

Your portfolio balance dips, and a pit forms in your stomach. News headlines scream about crashes, and fear clouds your judgment and makes you wonder if you’ve made a mistake. 

This scenario is all too real for many new investors in the US.

While the stock market is an excellent wealth-building tool, it can also be volatile. Its ups and downs are inevitable, and witnessing those initial dips can be nerve-wracking. 

But here’s the key takeaway: market volatility is a normal part of the investment journey, not a reason to panic.

Why You Shouldn’t Panic?

Let’s take a deep breath because initial nervousness might not be the best action.

Market Volatility

The ups and downs, or the short-term swings in stock prices, are referred to as market volatility. Numerous reasons, such as the following, maybe the source of these fluctuations:

• Economic news: Economic data releases, interest rate changes, and inflation levels can all impact investor sentiment and cause stock prices to move.
• Company news: Earnings reports, mergers and acquisitions, and leadership changes can all affect individual companies’ stock prices.
• Geopolitical events: Global conflicts, political instability, and natural disasters can create uncertainty in the market, leading to volatility.
• Investor psychology: Investor sentiment can be fickle, and periods of fear or urge to earn quickly through stocks can lead to sharp price swings. 

Now you must be thinking, is Volatile Markets Normal?

The most crucial thing to remember is that investing often involves market volatility. A thriving market requires some degree of volatility. 

Here are some statistics to support that:

A study by Fidelity Investments found that since 1928, the S&P 500 (a broad index of US stocks) has experienced an average annual decline of 13.7%. Yet, the index has delivered an average annual return of nearly 10% over the same period. This highlights how short-term dips are often outweighed by long-term growth.

In the next section, we will introduce you to some of the best tips for dealing with Volatile Markets.

Essential Tips for New Investors

Now that you are calm and understand the normalcy of market volatility let’s dive into some actionable steps you can take as a new investor: 

• Define Your Risk Tolerance

Before you headfirst into the market, it’s crucial to understand your risk tolerance. It refers to your comfort level with potential losses. Knowing your risk tolerance helps you choose investments that align with your financial goals! 

Here’s a breakdown of different risk tolerance profiles:

• Aggressive Investor: You are comfortable with significant fluctuations and prioritize high potential returns. Put more money into equities with a more substantial growth potential but are typically riskier.
• Moderate Investor: You seek a balance between risk and reward. A mix of stocks and bonds might be suitable, with a tilt towards stocks for long-term growth.
• Conservative Investor: You prioritize capital preservation and are less comfortable with volatility. Invest more heavily in bonds, which offer lower potential returns but are generally considered safer.

Risk Tolerance Assessment

Your time horizon (the length of time you expect to invest), financial status (capacity to absorb losses), and investing goals (retirement, short-term savings, etc.) should all be taken into account when determining your level of risk tolerance. 

The following websites have risk tolerance tests:

• Investor.gov
• Schwab Risk Tolerance Quiz

If you are aware of your risk tolerance, you may create a portfolio that represents your comfort level with risk and make wise investment selections.

• Build a Diverse Portfolio

Now that you have determined your level of risk tolerance, let’s discuss diversification. It is an effective instrument for controlling risk and enduring market turbulence.

Diversification

What would happen if you put all your eggs in one basket and it was dropped, shattering them?

Diversification is like using multiple baskets for your eggs. Even if you drop one, you still have eggs left in the others. 

In investing terms, diversification means spreading your investments across different asset classes. Asset classes are groups of investments with similar characteristics and risk profiles. 

Here are the key US asset categories to consider: 

• Stocks: Represent ownership in companies. Offer more potential returns but also carry a more significant risk.
• Bonds Represent loans to companies or governments. They generally offer lower potential returns but are considered safer than stocks.
• Cash Equivalents: These include money market accounts and certificates of deposit (CDs). They offer low risk and low returns but provide liquidity for short-term goals.
• Real Estate Investment Trusts (REITs): Invest in mortgages or real estate investments. Provide insight into the real estate industry without really holding any real estate.
• Commodities: Include physical goods like oil, gold, or wheat. It can act as a hedge against inflation but can be volatile. 

Benefits of Diversification

Investing widely across a variety of asset classes allows you to:

• Reduce Overall Portfolio Risk: When one asset class declines, another might perform well, helping to offset losses.
• Manage Volatile Markets: Market fluctuations can be mitigated with a diversified portfolio. 
• Meet Different Investment Goals: Different asset classes offer different risk-return profiles, allowing you to tailor your portfolio to your specific goals.

Asset Allocation Based on Risk Tolerance

Your portfolio’s ideal mix of asset classes (asset allocation) depends on your risk tolerance. 

Here’s a general guideline: 

• Aggressive Investors: Can allocate a higher percentage to stocks for potential growth, with smaller allocations to bonds and cash equivalents.
• Moderate Investors: Aims for a balanced portfolio with a mix of stocks and bonds, potentially including a small allocation to REITs or commodities.
• Conservative Investors: Prioritize bonds and cash equivalents for safety and make a smaller allocation to stocks for long-term growth. 

Remember, asset allocation is not a set-in-stone formula. It’s an ongoing process that should be reviewed and adjusted as your risk tolerance or financial goals evolve.

• Invest for the Long Term

While volatile in the short term, the stock market has historically rewarded investors who stay invested for the long haul (generally considered 5+ years). 

Here’s why:

• Average Market Fluctuations: Short-term dips and corrections are inevitable. But historically, the stock market has trended upwards over the long term. By staying invested, you allow these ups and downs to even out and benefit from overall market growth.
• Compound Interest Works: Compound interest is often called the “eighth wonder of the world” for a reason. The idea that you can earn interest on your interest dramatically speeds up the acquisition of wealth. The longer you stay invested, the more time your money has to compound and grow.

Dollar-Cost Averaging: A Friend in Volatile Markets

Dollar-cost averaging (DCA) is an incredible investment strategy that can help you navigate and potentially benefit from market volatility. 

Here’s how it works:

• Invest Regularly: Instead of a lump sum, you invest a fixed amount at regular intervals (e.g., monthly).
• Buy More When Prices Are Low: During market downturns, your fixed investment amount buys you more shares. This helps you lower your average cost per share over time.
• Reduce Emotional Investing: DCA eliminates the temptation to time the market, which is infamously hard to do consistently. You make regular investments in the market regardless of its ups and downs.

Investing for the long term doesn’t mean ignoring your portfolio entirely. Conduct periodic evaluations, perhaps once a year, to ensure your asset allocation still fits your changing objectives and risk tolerance. 

• Stay Informed, But Avoid Information Overload

It’s essential to keep up with the financial markets, but it’s also necessary to find a balance to prevent information overload. 

Here’s how to navigate the financial news landscape as a new investor:

ABBO News

ABBO News offers stock market news and analysis from experienced journalists. They cover breaking news, trends, earnings, and IPOs to help you make informed investment decisions.

Additionally, avoid becoming confused when reading from many channels. Rather than constantly overexposing yourself to financial news, compile a list of trustworthy sources that align with your investing objectives and areas of interest. This will help you stay informed without getting overwhelmed.

While staying informed is essential, avoid constantly checking your portfolio. Market fluctuations are inevitable, and checking your investments daily can lead to emotional decisions. Schedule periodic reviews (maybe quarterly or annually) to assess your asset allocation and make adjustments if needed.

Conclusion!

As we all know, the stock market is unpredictable in the short term. However, by following the essential tips above, you’ll be well-equipped to navigate its volatility and stay on track for your long-term investment goals.

Staying calm, informed, and invested for the long haul is critical to building wealth over time. 

Step ahead and start building your bright financial future!