Below are four things to remember about investing all the time but especially at times when the stock and bond markets are very volatile and exhibit large swings, up and down, in prices:
1. Develop a personal asset allocation strategy, and stick with it. Asset allocation is the way you divide your portfolio among various asset classes such as stock, bonds, real estate, and cash assets. Your asset allocation strategy should be based on your investment risk tolerance level and the time frame required to achieve your financial goals. Generally, the longer the time horizon, the more risk you can afford to take, consistent with your risk tolerance level. The shorter the time horizon, the less risk you might want to take. Your asset allocation strategy is your guidepost when markets are uncertain. If you decide to work with a financial advisor, he or she may refer to your investment strategy as an "investment policy statement."
2. Know your risk tolerance level. It is a key factor in building a suitable portfolio for you regardless of whether markets are up or down. A research-based investment risk tolerance assessment tool can be found at http://njaes.rutgers.edu/money/riskquiz/. Research conducted with this instrument has found that risk tolerance often varies with the direction of market indices. Ideally, risk tolerance should be somewhat stable regardless of market conditions.
3. Keep your investment portfolio diversified to mitigate investment risk. Diversification can be achieved by including different asset classes within your portfolio and different types of investments within each one. For example, within the asset class of stocks, one could have large and small companies, growth and value stocks, and foreign and domestic stocks. A common way that investors also diversify their portfolio is to buy investments, such as mutual funds and exchange-traded funds, that are already diversified because they pool together many securities. Without adequate diversification, investors are vulnerable to losses caused by declines in the value of a particular type of investment or industry sector.
4. Buy low and sell high. While this is the fundamental principle of investing, many people do the exact opposite when their emotions cause them to panic during down markets. A good way to "buy low" is to follow a dollar-cost averaging strategy, and deposit a regular amount at regular time intervals (e.g., $50 per month) to buy shares of stock or mutual funds. Dollar-cost averaging helps take the emotion out of investing because deposits are automatic regardless of market conditions.
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