Well, the markets sure were ugly Tuesday. But forget the past – what investors want to know is, “what does the stock market hold today?”
The unfortunate answer is that we face more of the same. So it’s time to prepare your portfolio.
First, the details: The S&P 500 Index and the Russell 2000 small-cap index are both negative for the year after sharp declines lately — while the Dow Jones Industrial Average is about 300 points shy from posting a year-to-date loss, too. More disturbingly, charts and broader investor sentiment indicate these ugly numbers are only the beginning.
What Investors Can Expect
Yesterday, technical analyst James Brumley mused early in the day that the Dow was walking on the edge of a cliff. You can follow the link to get the specifics, but these two sentences sum it up pretty well: “A break under 12,000 this time around won’t be dismissed as just a little volatility. … If that happens, the Dow may not find a floor again until the 11,500-11,600 — at least.”
For the record, that’s another 8% slide in the DJIA according to Brumley.
Sure as can be, once the Dow broke 12,000 late yesterday the selloff gained momentum until the closing bell tallied a massive 266-point decline. The drop was the latest in an eight-day slide that totaled 858 points shed from the DJIA, or 6.7%.
But if you think those numbers are ugly, the S&P is even worse . The index is now in the red year-to-date after suffering its longest losing streak in three years.
Most ominously, the S&P 500 Index is a hair above the 1,250 mark many technical analysts — including those quoted recently in the Wall Street Journal market blog — have been pointing to as an inflection point, prefacing another sharp move down.
If you’re looking for optimism, about the best I can offer is the technical analysis of Serge Berger – his article this morning points to the prospect of a rally that, if it transpires, could take the S&P back to as high as 1,320. Not stellar, but decent. Of course he also points to an “ultimate target near 1,180” for the S&P, about 6% below current levels. So don’t consider that a ringing endorsement.
Actions Investors Should Take
So what’s next for your portfolio? For starters – don’t panic. It’s a cliché but it’s true. Unless you need to cash out your stock in the short-term to pay the bills or you are an aggressive trader focused on short-term investments, there’s no need to run out and make knee-jerk sells due to the volatility. Long-term investors or income-oriented investors particularly have no reason to run screaming … just yet, anyway.
A more practical approach would be to rethink your broader investment strategy and safeguards to see if they are doing their job now that the pressure is on. Here’s a quick checklist of three items to review:
Stop Losses: Do you set stop losses on your stocks? Do you revisit the stops monthly or even quarterly to adjust for changes in your portfolio? Stops can’t prevent you from losing money but they can help protect you from massive short-term declines in a pinch. Take the popular China travel stock, Ctrip.com (NASDAQ:CTRP). Like many aggressive emerging market plays, the volatility can swing both ways – and CTRP stock gave up -13% in the first two days of this week alone and could face further pressure. For many investors, it’s a good idea to adjust trailing stops of 10% to 15% on stocks like this on a regular basis.
Low-Risk Bedrock Investments: Do you have enough of your portfolio in bedrock investments that, while not immune to volatility, weather market downturns better than other investments? Even aggressive traders should have at least a portion of their funds in low-risk investments to add stability to their overall portfolio. Consider that mega cap tobacco stock Altria (NYSE:MO) squeaked out a tiny gain yesterday, consumer products powerhouse Procter & Gamble (NYSE:PG) lost less than 1% and telecom giant Verizon (NYSE:VZ) lost about 1% on the nose. Throw in the fact that all three of these picks offer a hefty dividend and you can see their low-risk potential in action. Obviously these picks won’t rev up as fast in a recovery – but in tough times, investors are reminded of the important role defensive stocks like these play in limiting losses and protecting your portfolio. (Check out my column on 3 safe haven investments for troubled times for other alternatives)
Your Exit Strategy: The market has been choppy for a while, but the last few weeks have shaken many investors’ confidence. So before the stress gets unbearable as you click “refresh” on your portfolio every 5 minutes to watch the carnage and wonder whether to sell, decide how big of a loss is too big for you to handle. If the S&P bottoms out at 11,000 – another 7% decline that puts us back to Thanksgiving 2010 levels – and flatlines for a month or two, where does that leave you? What about 10,000, which puts us about -17% off our recent peak and back at valuations not seen since early October 2010? The answers will be different for everyone, and highly personal. If you’re 40 with an IRA that can’t be tapped for another two decades, you may not mind staying the course or maybe even doubling down after a sharp decline. But if you’re in your 70s and are already tapping into your nest egg for regular expenses, it’s a much different story. Do yourself a favor and think long and hard about your loss threshold before things get any crazier and you have to decide under pressure. Preparing for the worst today will make it easier to take action a few weeks or a few months down the road if things get really hairy.
Jeff Reeves is the editor of InvestorPlace.com. As of this writing, he did not own a position in any of the stocks named here. Follow him on Twitter via @JeffReevesIP and become a fan of InvestorPlace on Facebook.
