Scared by Stock Volatility? Moving Investments to Cash Can Backfire in a Big Way
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Bear markets are trying times for investors. Watching the value of your portfolio drop day after day might even convince you to cut your losses and exit your positions in favor of cash. But is that really the best course of action?
Research from investment advisor Vanguard shows evidence that your money is probably best left in stocks, even during the tumult of a bear market — a period of prolonged losses across the stock market.
While keeping your money in the market might seem stressful in the moment, Vanguard's data indicates that it usually pays off better than shifting to cash.
What the data says
Regardless of whether there’s more bearishness ahead, Vanguard advises against selling stocks in reaction to any short-term changes in the market. The company’s April report instead contends that it’s a better financial move to keep a balanced portfolio and stick to your longer-term investing plan, even during a bear market.
The report states that investors who hold only cash have a very high chance of underperforming compared to a balanced portfolio of 60% stocks and 40% bonds. Investors who hold cash for three months have a 74% chance of underperforming a 60/40 portfolio, with an average underperformance of -4.1%. Holding cash for a full calendar year makes for an 87% chance of underperforming a balanced portfolio by an average of -13.5%.
For many investors, cycling out of assets and into cash can be related to risk tolerance. Like the report says, "sustained market drops like we’re experiencing now can be hard to stomach."
These investors might believe that they can time the market's turnaround. But as Vanguard research also points out, timing the market is an impossible feat. Half of the 20 best trading days in the last four decades have come during years that saw negative total returns.
The market has been especially volatile since mid-2022, just months after the Federal Reserve kicked off its campaign of interest rate hikes. While stocks rallied in early 2023, unexpected events have continued to hamper the market; most recently, Americans have seen the meltdown of a number of regional banks adding to the turmoil. This volatility has continued, too, as investors try and assess the Fed's next moves when it comes to interest rates.
These factors may very well be stirring up worries among investors, especially as we get into a month that historically hasn't been good for the markets.
Vanguard’s report suggests that investors should carefully evaluate their circumstances before considering exiting the market. Oftentimes, doing so means missing out on valuable gains. One piece of advice the report gives is to “tune out the noise” and avoid checking your portfolio during downturns. Doing so can lead to rash decision making.
Most prominently, the company advises investors to maintain diversity in their investments, so that while one set of assets might be suffering, investments considered safer during market troubles, like bonds, will hold fast.
“Year to year, anything can happen in the stock and bond markets, but the benefits of remaining committed to a balance[d] portfolio are compelling,” Todd Schlanger, Senior Investment Strategist at Vanguard, tells Money.
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