Yesterday in a class discussion the topic of preparing for a bear market came up and it was interesting to see that my wife and I have different views and plans to handle a drop in the market. What is a bear market? A bear market is a drop of 20% or more in the stock market. It is worth mentioning that bear markets are very normal and should be expected every so often, in fact on average they happen about every 4 years and last for about a year, interestingly bear markets are usually followed by a bull market which is an increase of 20% or more and the best part is that bull markets usually last for several years or 4-5 times as long as bear markets. So the question was if we know that we are due for a bear market or a drop in prices what should we do to prepare ourselves?
Mrs. FU was the first to field this question and her stance was to do NOTHING, absolutely NOTHING!!!! Her advice is that she believes in the investing plan and the asset allocation she has and that it will be successful over the long term, so she will continue to dollar cost average regardless of what the market is doing. She plans to have her asset allocation set and only readjust it once per year to realign her holdings to match her desired allocations. It is worth mentioning that Mrs. FU is usually right and I get in to the most trouble when I don’t listen to her:)
I Mr. FU decided to add my stance on the question next. I believe that we are overdue for a significant drop in the market but must add that markets don’t go up or down based on the length of a bull or bear market, they rise and fall based off of a number of factors. A significant drop is usually due to a bubble caused by mass speculation that artificially drove up the prices. This was seen in the tech bubble where companies were being traded for unreal prices, especially considering most didn’t even have any earnings just lots of hype. I would like to also mention that every single share of a company listed on a secondary market is owned by someone, so to buy a share someone else has to decide to sell it, this means that someone has to have an opposing view of the value of the share as the one you have. My personal plan and what I am currently implementing is to continue to invest the same amount in all my tax advantaged accounts but to allocate a large percentage of those funds to a money market account, basically holding them in CASH until I see a good buying opportunity. When I see a significant drop I will first change my future contributions back to domestic and foreign equities and slowly start using the cash reserves to buy shares at a nice discount, the plan is to spend 25% of cash reserves at a time to see if the price will keep falling. I have not and do not plan to liquidate or sell any of my current holdings, just to use the cash reserves to buy shares at a significant discount.
So who is right? I would say that Mrs. Fu has the safest plan and that in 40 years it may not make that big of a difference what exactly we paid per share as they will be worth much more anyway. The main thing is that we are both fully funding our tax advantaged retirement accounts as well as using our taxable accounts. We both practice paying ourselves first or as we call it “forced scarcity” by having the funds taken out automatically before we even have a chance to spend them and we have aggressively paid down our debts to free up cash flow to invest. My kids who all have ROTH IRAs and each follow the same investment strategy of 60% large cap index fund, 30% foreign non-US index fund, and 10% REIT index fund, have all decided to follow their mother’s advice and just dollar cost average regardless of the market conditions. For the kids who have a 50+ year time horizon saving 20-30% on several shares now will make almost no difference at all.
What do you think? Should we follow Mrs. FU and stick to a set plan or should we listen to Mr. FU and try to wait for the market to go on sale? I’d love to hear your opinion.
Thank you for joining us and remember that we are not licensed financial advisers or tax professionals, please consult with your financial specialist before making any financial decisions.