Quiz: What’s your risk number?

Over the past two days, we watched markets drop as they haven’t done since February: the Dow is down 1,400 points, and the NASDAQ is near correction territory.

If you’re feeling anxious about it, there’s a decent chance it can be traced to one of two things: missing context or misaligned risk appetite.

CONTEXT
Over the past two years, U.S. markets have soared. The Dow Jones Industrial Average gained more than 7,800 points in 2016 and 2017, and has continued rising this year.

Because markets have been so high, the dramatic loss numbers we’ve seen in yesterday and today’s headlines may sound scarier than they are. A little context may help put them in perspective.

Yes, the S&P 500 has been down for the last six trading days and the Dow dropped dramatically two days in a row, and these point-losses sound frightening.

But remembering the elevated growth of the last two years can help us put it into context. Even after today’s losses, the Dow is right around where it was in July.

Do you remember the last time the Dow dropped as much as it did in the last two days? It was in February, when the Dow posted its worst one-day point drop in history. But the real answer is this: for long-term investors, it doesn’t matter.

If you had sold your stocks due to those February headlines, you would have missed out on the continued growth we’ve seen since then. From February 8 to now, the Dow has gained about 7 percent, including the recent drop.

As we told you in February, we’re optimistic about overall growth for 2018 but we’re likely to see a bit more drama, especially in a rising rate environment. Volatility is a normal, healthy part of market cycles. Don’t let sensational headlines push you to panic.

In that same piece, we reminded you that since 1900, the U.S. averages about one correction per year. (A correction is defined as a 10% pullback in stocks from 52-week highs.) And the stock market has had positive annual returns in 28 of the last 37 years. Remember: a correction (a stock market drop) is nothing like a recession (a sustained decline in the overall economy).

With that perspective, if your investing time frame is years or even decades from now, it’s probably best to hold tight and stay invested. Of course, there’s no guarantee that durations of future recoveries will happen in a similar time, or at all. But unless you have a need for your money in the short term, it’s usually prudent to just be patient.

By the way, the economy is still doing great. Thanks to cuts in corporate tax rates, earnings are looking good for the third quarter, with a rise of more than 20 percent compared to last year looking likely. That would be the third consecutive quarter of earnings growth of more than 20%, according to FactSet.

This makes stocks the place to be for investors, even assuming higher interest rates.

RISK APPETITE
If you still feel anxiety about recent market volatility, it may be that your investment strategy isn’t aligned with your risk appetite.

“Risk appetite” refers to the amount of investment risk you’re comfortable taking for a particular investment goal. It’s usually based on the timeframe for that goal and on your personality and personal preferences.

For example, if you’re investing for the college education of a child who is still a toddler, you will likely have a greater risk appetite and be able to invest in more aggressive strategies because of the long timeframe until that money will be needed. You can afford to invest in stocks that fluctuate more — but are also likely to grow more — because you have years to wait out market ups and downs.

But if you’re investing for the education of a child who’s 16 years old, your risk appetite would likely be much smaller; in a few short years, that money will be needed for tuition payments. You can’t risk investing in stocks that are susceptible to volatility in case markets are low when you need to sell and withdraw cash.

When it comes to retirement investing, risk appetite generally tends to be higher for investors who have a long time horizon before retirement, and lower for investors who hope to retire sooner and need their investments to be more stable when they begin to rely on that money for income.

Personality and personal comfort play a big role in risk appetite as well. If you’re investing for a long-term goal but market volatility is still keeping you up at night, you may be investing outside of your risk comfort zone. There’s no “right” level of risk tolerance, just one that’s right for you.

Curious what your risk appetite is? You can take this short quiz to learn your “risk number.”

If your investments have a higher risk level than you’re comfortable with, you should talk to your financial advisor about adjusting your allocation. (You can reach your Azzad advisor by calling 703-207-7005).

If you have a high risk tolerance and a long enough timeframe, a market drop is either something to ignore or an opportunity to buy or rebalance your current portfolio. In a market dip like we’re in right now, rebalancing would mean selling more conservative investments that haven’t dropped with the market and buying more aggressive options while prices are low.

Whatever may be happening in the markets, understanding your personal risk appetite and sticking with a long-term plan that aligns with it are crucial to your success as an investor.

 

As always, investing involves risk. No strategy, including asset allocation, rebalancing, or diversification, can guarantee a profit or protect against a loss in any given market environment.

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