When stocks are ‘overvalued’ and investors fear a collapse, losing a significant amount of their portfolio’s value, they often ask - what should I do next? They feel compelled to do something, anything to protect their wealth.
The markets climb a wall of fear; investors do not want to lose what they have gained, so feeling pressure to do something rises with markets. Pundits proclaim safe harbors, but those may be out of reach to individual investors.
A significant number of investors have a majority of their assets in 401k’s or 403b’s, limiting investment choices. The firm where you work wants to limit their risk by reducing your risk – essentially providing employees with safe investment choices. Which makes sense because good stewards should be doing just that, looking after everyone’s best interest.
Your investment options are clear – stocks, bonds, cash and/or stable value funds. Timing the market is nearly impossible and going all cash to protect your wealth may cost you dearly by losing ground to inflation and potentially missing out on an extended bull market run.
Actively rebalancing your portfolio goes a long way towards reducing risk because it restores your original allocation while simultaneously helping you buy low and sell high – every investors dream. Track My Portfolios, an online portfolio monitoring service, aids with tracking portfolios and helps identify when your portfolio could use rebalancing. The cost is relatively low compared to what you stand to gain, so think of it as AAA for your investment portfolios, something that helps capitalize on up and down markets.
Another option to protect from risk is to employ a tactical shift. Suppose you have fifty percent dedicated to stocks and you think they are overvalued. You would apply a tactical shift by moving a fixed percent from stocks to bonds and/or cash by reducing stocks from fifty to forty-five percent, a five percent shift. This reduces your exposure while reducing anxiety by ‘doing something’. Limit the percentage shift to five or ten percent, depending on your analysis.
The risk with a tactical shift is that we become so busy that we forget why it we did it in the first place. We are savvy investors one day and quickly forget the next because life takes over and we get back to our routines. Knowing when to take it off is equally as important as applying it in the first place. Therefore, use it infrequently and limit the percent you shift.
Modern day markets may move swiftly and managing our own assets is an important task, so by utilizing rebalancing and occasionally employing tactical shifts, you can rest assured that you are maximizing your returns relative to your investment choices.
Overvalued Markets Summary:
- Go slow, you do not need to react immediately
- Portfolio rebalancing – use whenever one or more holdings exceeds your personal threshold
- Tactical shift – use sparingly and know when to revert back otherwise, you simply changed your asset allocation
Good luck and remain calm during heated market periods.
G. Michael Kennedy
Financial Strategist
Family Financials, Inc.