Protecting Yourself in a Skittish Market

Turning the TV channel from Fox News to CNN to MSNBC, the images are familiar. Crowds of people demonstrate in the streets. Molotov cocktails fly through the air and explode in a grisly mix of fire and glass.  Another dictator may fall, or protesters may be arrested.  The slumber of a previously submissive population has been awakened by a younger generation fueled by social media.

Beyond Egypt and the Middle East, our own economy still struggles to gain footing.  Many analysts believe that, as a result of a weak and unbalanced financial system, the bull market that we are seeing right now could experience significant volatility.

The VIX is an index of consumer perceptions of risk in the market place.  The VIX index is published in any Financial Newspaper, i.e. Wall Street Journal.  It is a bellwether measure of volatility in the marketplace today.  In 2010, the VIX peaked in May and June, and has gradually leveled off since then.  This index, however, can change quickly.

In 2010 the S&P 500 saw an increase 15.06%.  All in all a pretty good return, particularly in light of previous years when the S&P was negative.  In looking at 2010 in detail, however, some facts are important to realize:

1. On 106 of 252 days that the market was open, the S&P 500 actually went down.
2. If you had taken a daily average, the return on the S&P 500 would be 2.2%.

In fact, over the past 30 years the S&P 500 has averaged 11%.  The issue of course is when you decide to put your money into the index.  Over the 30 years if you take out the twenty best days the return drops to 6%.  If you take out the best 50 days the return drops to 2%.

In May of 2010, the market experienced the "Flash Crash;" an event started by a computer program that eventually led to a 600 point drop in the Dow Jones.  In the aftermath the television program 60 Minutes ran a story about how computers are now handling trades on stocks sometimes at split-second interval.  The question for today's investor concerned about retirement is what to do when world events impact the direction of markets.  While this has been an age-old dilemma, increased volatility in the markets reflects what is happening in society.

While diversification is a good strategy, what happens is the entire market is negatively affected by world events.  There is no real way to avoid systemic risk. Systemic risk is market risk.  If the market goes down, people lose money, take it one step further if the market goes down so does your retirement account go down.  At this stage in your life can you really afford this scenario.

What if there was a product for investors that protects them in this time of increased volatility? If a market has a decline over a period of time, investors will see 0% credited to their accounts as opposed to actually losing money.  In compensation for this security against loss the upside is limited.  Would you accept a more limited upside in return for a guarantee of protection on the downside?
A study was done that actually asked these questions and 80% of people surveyed stated that they would rather have a 4% return with a guarantee against not ever losing their investment, versus a product that offered 8% return with the possibility of loss.  If asked, and you fall into the 80% category, give our office a call and we will gladly provide you with the information needed to make an intelligent decision otherwise enjoy the ride, it's your retirement.

Tom