If you’ve ever been the parent of a teenager, you know that it’s a bad idea to read too much into any single day.
That same kind of thinking typically can be applied to the stock market and mutual funds. A particularly good day, or a dreadfully bad one, should be seldom acted upon.
So when the market had its biggest down day since September 2001, and the eighth-biggest point drop in the history of the Dow Jones industrial average, the standard advice was to push on.
But just as a watchful parent looks for clues during those peak days for what sets their children off, so should the diligent investor look at the market’s move last Tuesday to see if it holds any hints that could lead to long-term happiness or disappointment.
Experts are virtually universal that one day’s movement, no matter how large, is no reason to abandon a fund or investment strategy. Instead, the key things to look for are more subtle and may be more personal than fund-specific; ultimately, they lead to portfolio tweaks that make an investor better prepared for the next nerve-racking day.
Here are questions investors might want to answer in light of last week’s market stumble.
Were you glued to the television and gulping antacids?
Staying calm during sudden market moves is all about risk tolerance.
“If you were inordinately worried about the market activity on Tuesday, you may be tiptoeing on the edge of your risk scale,” says Christine Benz, director of mutual fund analysis at Morningstar Inc. “Your mix of funds – rather than any individual fund – may be the problem.”
If a bond fund, a real estate fund or some other type of issue you have been considering would have smoothed out the ride on that volatile day, it suggests you need to spread your money around more.
Did the day’s volatility stress- test your fund?
Many people checked their investments after Tuesday’s carnage but didn’t compare their funds to peers.
“If you have a large-cap value fund that went down a lot more, or a lot less, than the large-cap value index, you have to wonder if the fund is doing what it is supposed to,” says Roy Weitz, founder of FundAlarm.com, a website that helps consumers decide when to sell funds. “If your international fund performed more like an emerging-markets fund, it suggests that the fund is drifting towards those markets, and those risks.
“If the results compared to a benchmark are a surprise, you may want to re-evaluate the fund when you get the next quarterly or semi-annual statement of the portfolio holdings, to see what the fund really holds and if it is in line with what you thought you were buying.”
If you didn’t bail out, do you really want an instant parachute?
This applies to investors in exchange-traded funds, or ETFs, which are built like index funds but trade like stocks. One key selling point for ETFs has been the idea that investors can get out of the market on a moment’s notice. Critics, including Vanguard Group founder Jack Bogle, have suggested that investors might dump their index strategies any time the market hits the skids.
Last Tuesday was the first true test of will for ETF investors. Exchange-traded funds weren’t used much by mainstream investors back in 2001, the last time the market had a day with this much movement.
Early volume statistics suggest that ETFs traded like crazy on Tuesday, but most observers believe the action was institutional investors following short-term models.
If average investors who use ETFs stayed put, it raises a simple question: “If you’re not using the instant egress for moments like this, when will you use it?”
If there are no foreseeable circumstances where an investor envisions a 10 a.m. exit as being superior to getting the day’s closing price from a traditional fund, they should forget about this component as a “benefit.”
Chuck Jaffe is senior columnist for MarketWatch. He can be reached at jaffe@marketwatch.com or at Box 70, Cohasset, MA 02025-0070.
