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So you’ve done your four basic sanity checks to ensure you survive the credit crisis: Your savings are safe, they’re earning at the higher rates of interest now available, you’ve got a plan to pay off any debt, and your mortgage is sorted for the foreseeable future.
Time to turn over and fall back to sleep?
Possibly… it’s usually a bit late to Do Something once a financial crisis is underway, and ‘Sell in haste, repent at leisure’ would be a good motto for us investors to pin above our PCs. If you follow the daily advice of the financial TV channels and churn, churn, churn with every wobble, the only person who’ll get rich is your stockbroker.
On the other hand, any financial crisis can be frightening, and the best way to fight fear is to be informed.
I think it’s best to calmly consider where you’re at, financially, and where you’re going, rather than fixate on screens full of red or speculation that the White House is going to have to be pawned off to pay down the US trade deficit. It’s an absolute certainty we’ll all encounter several testing times when saving and investing over our lifetimes, and cultivating a calm head will save you a fortune.
Stopping economic turmoil derailing your investment or retirement goals means keeping your eyes on the bigger picture, in good times as well as bad. Sure, it’s important to check your short-term money is secure (that your savings are safe, and that you won’t soon face a steeply higher mortgage bills, as I covered previously) but beyond that you really might be best doing nothing at all and waiting for the storm to pass.
Indeed, I’ve taken quite a general view with these four more longer-term financial health checks, since I’m absolutely certain I’ll need to refer to them again regarding some fresh crisis in the years to come!
1. Check your portfolio… calmly
At times of financial crisis, stock markets fall.
If you’ve substantial investments in stock market funds, general or sector specific, you’re likely well down.
Most sectors are hit, usually before any impact is apparent in the wider economy. Sometimes a specific sector hurts the most, as with the dotcom bust (although people forget lots of ‘bricks-and-mortar’ shares fell in the years previously, so it wasn’t quite so clear cut). The only consistent exceptions in this current crisis are investments related to commodities, and the market indices of countries dominated by miners and other commodity producers.
Has the world really changed enough to make a big supermarket retailer, a provider of networking technology AND a manufacturer of metal cans worth 10/20/50% less than a few months ago? Of course not. They were either overvalued then, or they’re undervalued now. Company specific falls in bull markets reveal bad news about the company, but general falls in bear markets tell you nothing about the company and everything about the market.
Note also that no crisis is all bad news, financially-speaking, since different asset types respond in different ways.
In this current credit crunch of 2007/2008, gold has risen. So have government bonds, such as US Treasuries and UK Gilts, due to their rock solid security. Corporate bonds have wobbled on credit fears, while interest rates on savings are up, even as Central Bank base rates in the UK and US have been cut, which is good for anyone with cash. Finally, house prices have started falling.
It’s because different assets behave in different ways in each crisis that experts urge us to diversify our portfolios, rather than putting all our money in stocks, bonds or property alone, or stuffing it all under the mattress. As asset going up will ease the unpleasantness of something else going down, just like the sugary syrup they put in children’s medicine.
What it means for us
- Collective investments such as funds and index trackers gyrate or fall when the stock market is unsettled. (During this current credit crisis they’re lurching up and down every week).
- Pensions linked to the stock market will also be down.
- Most investors’ current net worth will fall. If you’ve a big portfolio built over many years, the numbers can seem unreal and frightening when compared to say your salary.
- Diversified investing will reduce the pain.
Action plan
- Unless you’ve been silly (putting all your money into real estate, or tech start-ups, or a palm oil plantation, or some other overweight bet) the best plan is almost certainly to sit tight.
- Don’t sell just because the market falls. As Benjamen Graham said, just because a gloomy Mr Market has slouched up with a particular price on some particular day, that doesn’t mean you have to accept his price as final. Stock markets go up and down, and one day he’ll feel cheerful and generous again.
- If you sell every time the market falls, you’ll destroy your long-term gains…
- … unless you sell before they fall further, of course. But very few investors can consistently time market drops, and in my experience those who can seem to have trouble buying back in. As a result, few great investors are market timers. (For instance, Warren Buffet isn’t selling, and in fact he may be buying). Buying and holding over reasonable periods is a better strategy for nearly all of us, billionaires or not.
- If on sober reflection and several good night’s sleep you decide you really have overly exposed yourself to some particular market, consider slowly selling down your holdings. (Do consider though how you’ll feel if markets bounce back after you’ve sold out). With stock markets, it’s fairly easy to do this (which is why you should pause and think twice). With some assets, such as property, you’ll need to plan your disposals more carefully.
- Read up on asset allocation so you’re better diversified against future downturns. One very simple rule of thumb is to subtract your age from 100: hold your age in various bonds and the rest in shares. Some advocate an even simpler 50/50 ‘lazy’ strategy. The excellent My Money Blog has a fantastic primer on different asset allocation models. It’s US focussed, but the principals will apply in other countries, too.
I wrote recently about how you can improve your diversification with 
