Now is the Right Time to Reassess Your Risk Tolerance
By the time you read this, we probably still won’t know for sure who the president will be for the next four years—and we may not know until Thanksgiving or Christmas. What will the answer mean for the financial markets? No one knows right now. However, history tells us that even in years when the presidential election has a dramatic impact on the markets, the drama is temporary and ultimately means little in the long run. With the coronavirus pandemic still weighing heavily on the U.S. economy, it seems a safe bet that history will repeat itself again this year. The markets held steady and even rose a bit during election week. Although Wall Street may still experience a spike or slump based on whether there is a power shift in Washington, when the dust settles, the pandemic and a few other related issues will once again be the main things on the minds of big investors.
Chief among those related issues is the second round of federal aid that has yet to be approved by Congress. This could become the major factor when you consider Covid-19 cases are spiking across the country (and across the globe) once more, and that the economic impact of the pandemic is expected to worsen during the fall and winter.* Can another relief package soften that impact? Or could things get bad enough (with or without more federal aid) to trigger the kind of investor panic we saw in March, when all the major indexes dropped by nearly 40%?
Anything is possible, but as I’ve noted before, I believe that if another pullback does occur it will be less rapid and less steep than the drop in March. With all of this in mind, there is one important question that investors in or nearing retirement need to ask themselves in the midst of this uncertainty: “Is my allocation still where I want it to be based on my risk tolerance?”
Now is a perfect time to reassess your risk tolerance with your advisor because you can use what’s been happening in the markets as an emotional gauge. Think back to when that major drop occurred in March. It was a panicked response to the World Health Organization declaring the coronavirus a global pandemic, and it affected everything. Growth-based investors saw their mutual funds shrink, but income-based investors also saw the values of their bonds and bond-like instruments drop. Your reaction at the time may have been to feel a sense of panic even though you knew that at the end of the day your loss was only a paper loss and your income was unaffected. If you were nervous, you may want to discuss the possibility of lowering your investment risk further—now that you’ve had this experience and realized just how risk averse you really are.
On the other hand, your reaction to the market panic in March may have been to take it all in stride. The knowledge that your income was more secure was enough to quell any sense of fear, and the market’s rapid rebound and relative stability ever since may have you thinking now about potential opportunities. In other words, the experience may have helped you realize your risk tolerance is higher than you thought—high enough that you may now want to discuss revising your portfolio to be slightly more aggressive if your goal is to increase income or total return potential. The good news, as I’ve discussed in previous newsletters, is that you can do this while still keeping your strategic focus on income through an actively managed portfolio of dividend paying value stocks.
The bottom line is that by reassessing your risk tolerance right now, you can be confident your allocation is still aligned with your goals no matter how shaky the markets get in the weeks and months to come. If your risk tolerance is lower, you’ll know your allocation is set up for greater protection and reliable income. If you’ve realized your risk tolerance is a little higher, you can amend your allocation to possibly increase your dividend yield and your potential for a bit more portfolio growth.
Permanent Low Interest Rates
Here’s another reason why all of this is so important right now. As I’ve been pointing out for years, I believe permanent low interest rates are the new normal, and that appears more certain than ever in the wake of Covid-19 and its impact on the markets. That means active management will remain a crucial part of Investing for Income as various risks and challenges arise in the bond market. For you, it’s important to understand all those potential risks and challenges, and to make sure your financial strategy is still perfectly aligned with your own risk tolerance and your individual retirement goals. Now is the perfect time to do it!
*“It’s About to Get Even Worse,” Axios, Oct. 12, 2020