The right portfolio can ease pain of stock market volatility

September 10, 2011

When to consider giving up on the stock market.

Q: With the recent volatility in stock prices, I'm thinking of giving up on stock investing. I find it very difficult to take the ups and downs. What can I tell myself to stick with it over the long term?

A: An investment professional recently told me he believes that 99% of investors should never put their money in anything except certificates of deposit or treasury bills. Unfortunately, unless your savings rate is at least 30% of your income, chances are you would not reach your long-term goals using this approach.

What you are experiencing is the "behavioral gap," which is the difference between the performance of an investment and the performance of the individual investor. Most investors tend to overtrade, so although everyone may understand the concept of buying low and selling high, very few nonprofessional investors can do it, and even the professionals often find it difficult to stick with a strategy.

What constitutes a solid investment portfolio is different for each individual. It should be a portfolio of assets that matches your tolerance for risk, value system, personal biases and beliefs, and ability to stay with it for the long-term.

If you tend to react emotionally in your investing, try to limit your adjustments to no more than 10% of your portfolio, so that in case you make a mistake, you don't do any irreparable harm to your finances.

Be aware, however, that every asset that you purchase will have risk factors, whether they are inflation, interest risk, credit, default, volatility, illiquidity, or loss of principal. The magnitude of the swings are something that can be reasonably measured and understood.

Understanding yourself, your tendencies, and your yardstick for measuring success and satisfaction is crucial to protecting yourself from making the behavioral mistakes that can disrupt the best laid financial plans.

Send your money management questions to medec@advanstar.com
. Answer provided by Jonathan M. Satovsky, CFP, ChFC, CIMA, chairman and chief executive officer of Satovsky Asset Management LLC, New York, New York.