Diversification is supposed to help you protect your portfolio from ups and downs, but this doesn’t mean your portfolio won’t lose money at certain periods. On the other hand, you may also be disappointed when your portfolio doesn’t do as well as the S&P 500 index. However, it’s important to remember that diversification is a long term strategy aimed at producing a potentially better outcome over a longer period of time. Here’s an example:
Diversification in action over 20 years:
Have a Long Term Plan
While most people know that it can be helpful to think long-term when it comes to investing, it can be hard to ignore market ups and downs and stick with a long term strategy. Sudden drops can cause investors to act impulsively and withdraw funds, potentially leading to them missing the rebound. Let’s look at one-year returns over 90 years:
While the market can be volatile in the short-term, sometimes declining substantially in one day, staying in the market has historically resulted in positive returns:
Beware of Inflation
Overtime, the actual value of money diminishes and the price of goods gradually increase. If you don’t take inflation into account, you could end up underestimating how much money you’ll need to save for retirement. Interest rates are at historic lows, so safe investments like CDs may not return enough interest to make your savings keep up with inflation.
Don’t Investing With Your Emotions
We naturally want to avoid risk and seek wins, but investing based emotions can be problematic. When things are going well, we can wish we had invested more, and when things are going badly it’s easy to give into panic. This can lead to buying high and selling low.
Timing the market is very difficult, it’s unpredictable. Did you know that the average investor gets timing the market wrong?
Timing the market is extremely difficult particularly because major rebounds can happen in a single day. Let’s look at a hypothetical $100,000 investment over the course of a 20-year periods: