Five guidelines for retirement investing in volatile times
- What can you do in these volatile markets to help improve your retirement outcome—whether you are saving for or already in retirement?
- We recommend that you stay focused on what you can control—how much you save and spend, and how you are investing.
- Five things you can do1: Re-evaluate saving and spending behaviors, invest regularly, stay invested, remain well diversified and rebalance your portfolio to the target allocation that is most appropriate for your retirement goals, stage in life and risk tolerance.
After reaching an all-time high on February 19, 2020, the S&P 500 plunged to levels 30% below that peak as U.S. markets succumbed to COVID-19 fears in March. Strikingly, on March 13, the index turned in its fourth-best daily return performance over a 20-year period, between its two worst days during that time frame.2 What can you do if you are investing for or while in retirement in the face of such extreme market volatility?
Asian governments are taking steps to help cushion the financial impact of the pandemic. Some—like Australia and Malaysia—are lessening penalties for withdrawals of retirement assets and/or reducing mandatory contributions. The Hong Kong and Singapore governments are under pressure to allow withdrawals but are providing cash payouts and subsidies instead.
We encourage investors who are able to do so to stay invested and continue investing regularly. In navigating these volatile times, it is more important than ever to stay focused on what you can control—how much you save and spend, and how you are invested—vs. what you can’t control, such as the markets (Exhibit 1).
Focus on what you can control—how much you save and spend, and how you are invested
Exhibit 1: The retirement equation
WHAT CAN INVESTORS DO NOW?
In these volatile times, concentrate on maximizing your saving and spending practices so that you can continue to invest regularly, stay invested and keep progressing toward your retirement goals.
1. RE-EVALUATE SAVING AND SPENDING BEHAVIORS
Managing your cash flow—ensuring that you have the liquidity you need to meet near-term expenses—provides the guardrails required to keep your retirement plan on track. Ideally, you should try to have sufficient savings on hand at all times to cover three to six months of total expenses. In challenging times, that can help reduce your reliance on long-term retirement assets to meet short-term cash needs—and/or allow you to continue to save regularly for your retirement.
This could be a good time to take a fresh look at your saving and spending practices. Thanks to social distancing, perhaps you are able to save on items such as transportation, eating out, entertainment and vacation travel. Consider how you might redirect those “forced savings.” The answer, of course, will vary depending on individual circumstances.
Asians generally have high cash balances—it is common for an Asian household to have the largest percentage of its wealth (40%-50% of its assets) in cash and deposits. If you have cash on the sidelines, there are potential buying opportunities right now. Think about putting your money to work by investing in strategies that match your long-term financial goals.
If cash is more constrained, consider redeploying any forced savings—and perhaps adding to them by making other spending adjustments, tapping emergency reserves or delaying payments (see “What if I need to cover an unexpected expense or have a gap in income?”). This may help you meet immediate spending needs, allow continued additions to retirement savings and avoid liquidating long-term retirement assets.
If you are in the early years of saving for retirement, use time to your advantage. Remember that the dollars you add to your retirement nest egg today (or the dollars you don’t take out) have a long time to compound and grow, giving you more money to spend in retirement.
If you are already in retirement, and particularly if you are just entering retirement—when asset balances tend to be near a life-cycle high—it is important to avoid selling into a downturn to meet spending needs. This can permanently lock in losses, depleting sources of retirement income.
WHAT IF I NEED TO COVER AN UNEXPECTED EXPENSE OR HAVE A GAP IN INCOME?
If you need to cover an unexpected expense or have a gap in income, rather than selling investments at an inopportune time and locking in losses, consider taking these steps, in this order:
- Use your current income—reduce your spending and redirect your current savings.
- Tap your emergency reserve fund/savings. Ideally, you should try to have sufficient savings to cover three to six months of total expenses on hand at all times.
- If you are able, delay payments at no additional cost to allow you to build up more savings now and cover additional unanticipated expenses. Make sure you understand the costs: If you don’t have to pay additional interest during the deferral period, delaying may be wise; if you will be charged a high interest rate during the deferral period, it may not be advisable; if you’re extending the term of the loan, it may or may not be a good idea.
2. INVEST REGULARLY
If you have money on the sidelines but are nervous about putting it in the market all at once, consider making regular monthly additions to your retirement savings.
Overall, investing regularly can help you stay on track to accumulate the assets you will need in retirement. It provides discipline and helps prevent emotions from interfering with your investing decisions. For example, it takes courage to invest when markets are falling, even though “buying low” can often produce the best results.
Investing regularly can also help you benefit from dollar cost averaging, which allows you to pay, on average, an amount that hovers between an asset’s most expensive and cheapest prices (because you are buying more shares when prices are low and buying fewer shares when prices are higher), smoothing out your investment cost and spreading out your investment risk. This way, you don’t have to worry about deciding when to invest, which can help reduce the mental burden. It’s also a well-known way to mitigate the impact of extreme market swings. And buying more shares with a given contribution amount as prices decline can potentially help when markets bounce back.
3. STAY INVESTED
Trying to time the market, especially in volatile periods, is generally a futile exercise—so if you can, stay invested. History has shown that, as measured by daily returns, the best and worst days often occur very close together. That makes avoiding the worst days without missing the best days extremely difficult.
In fact, an investor who stayed fully invested in the S&P 500 over 20 years (January 2000 through December 2019) would have earned more than 6% annually vs. less than 3% for those who missed just 10 of the days with the highest daily returns. And over those 20 years, six of the best 10 days for the equity markets occurred within two weeks of one of the worst 10 days (Exhibit 2).
Missing the best days can damage your long-term potential returns
Exhibit 2 : Performance of a $10,000 investment in the s&p 500, january 3, 2000 - december 31, 2019
Recent volatility has made it even more difficult, if not impossible, to avoid the worst days and benefit from the best. Adding on volatile daily returns from January through March 31, 2020, increases the number of best days that occurred within two weeks of the worst days. Over that extended time frame, eight (vs. just six) of the best 10 days occurred within two weeks of one of the worst 10 days. Missing even a handful of big rebound days can really damage your long-term returns.
When market volatility returns to more normal levels, assess whether your portfolio is still adequately diversified—and whether your target asset allocation is still aligned with your retirement goals.
4. REMAIN WELL DIVERSIFIED
Today’s environment underscores the need to maintain a diversified portfolio. Putting all your savings in just a few investments, especially if they are relatively illiquid, is risky—in a down market, you may not only have to sell at a loss, you might have difficulty raising cash when you need it.
Investing in professionally managed solutions like mutual funds that are diversified and periodically rebalanced can keep investors on track. Such strategies can help moderate portfolio declines during market drawdowns and potentially boost portfolio recovery as markets rebound. For example, from the market peak in October 2007 to the low in March 2009, a $100,000 diversified portfolio with 60% equity and 40% fixed income, regularly rebalanced, declined only about half as much as the S&P 500 and rebounded 17 months ahead of the all-equity index (Exhibit 3).
Staying well diversified while investing regularly (a previously discussed guideline) can produce an even better outcome (Exhibit 3). When contributions of $200 are made to the 60/40 diversified, regularly rebalanced portfolio at the end of each month, starting in October 2007, the portfolio recovers by March 2010, seven months ahead of the portfolio without contributions. Ten years later (March 2020), it is worth $48,089 more than the same portfolio without contributions. This added value, of course, includes $29,800 of savings (149 months of $200 contributions), but it also includes $18,289 of investment return as a result of the additional compounding of those savings.
Staying diversified and saving regularly may help improve retirement outcomes
Exhibit 3 : Portfolio returns—Equities vs. equity and fixed income blend, with and without contributions
5. REBALANCE YOUR PORTFOLIO BACK TO YOUR TARGET ALLOCATION AND ASSESS WHETHER THAT TARGET HAS CHANGED
Your target asset allocation (TAA) is an asset mix that should thoughtfully balance three elements: the level of risk you need to take to meet your retirement goals, your capacity to take risk (largely defined by your retirement investment horizon) and your risk tolerance (how much risk you feel comfortable taking).
Your target allocation has near-term and long-term implications for managing retirement assets. First, it serves as a guidepost for managing your portfolio’s asset mix. Market performance itself can take portfolios off course, especially in periods of heightened volatility, so it’s important to routinely rebalance your portfolio back to its target.
In the longer term, each of the three elements your target allocation is designed to balance can change. That is particularly true of your risk capacity as you enter different phases of your life.
In our “Principles for a successful retirement,”3 we explain the “sequence of return risk” and the importance of gradually reducing portfolio risk as you approach retirement. Generally, risk should be highest in your early working years, when your capacity for risk is greatest; adjusted downward five to 10 years prior to retirement, as protecting the wealth you’ve accumulated becomes more important; and reach a low point near and in retirement, when a consistent income stream is a high priority.
Don’t wait until the end of your working life, when your wealth is greatest, to begin de-risking your retirement portfolio. If your account balances are high and your target allocation is risky as you start drawing down retirement assets, a market downturn could leave you facing the challenge of “dollar cost ravaging.”
Under dollar cost ravaging, which has the opposite effect of dollar cost averaging, volatile markets can force a retiree to sell more shares at lower prices to meet spending needs. If you withdraw and spend money from your portfolio while markets are falling, you essentially lock in your losses, negatively impacting your retirement nest egg over time. In the worst case scenario, a combination of market losses and portfolio withdrawals early in retirement can cause your retirement assets to run out too soon, even if your portfolio performs well overall.
The message is: Make sure you adjust your target asset allocation over time as the level of risk appropriate for your stage of life changes. De-risk in advance, before asset balances reach their highest levels and the risk of dollar cost ravaging sets in. And remember, the de-risking decision should not be driven by emotions in the face of market volatility. At each stage of your retirement journey, your target allocation should reflect the investment results you need for the retirement you want, balanced against your risk capacity and tolerance for risk.
The sudden end to the longest-running equity bull markets and the dramatic volatility that has followed can be seen as a call to action—to stress-test your retirement plan’s sustainability and thoughtfully consider whether your risk exposure is consistent with your capacity and tolerance for risk. When did you last assess your target allocation? Have you progressed to a new phase of life since then? Are you still comfortable with your portfolio’s risk level? Are you looking for smoother sailing going forward? If you choose to reduce your level of risk, what trade-offs are you willing to make to achieve your retirement goal—save more? work later? spend less in retirement?
Volatile times can help you refocus. Revisit your retirement plan to assess where you stand today and how to achieve the retirement you want.
HOW SHOULD INVESTORS OF DIFFERENT AGE GROUPS NAVIGATE MARKET VOLATILITY?
- For those in their 20s/30s/40s: Try not to focus on your retirement balances right now. You are still many years from retirement and thus have the risk capacity over a long time horizon to take advantage of equity’s long-term record of outperforming bonds. Time is on your side. Continue to invest regularly, stay invested, diversify and be thoughtful about de-risking your portfolio as you move through different phases of your life.
- For those in their 50s: You, too, generally have time on your side. Take a lesson from the experience of the global financial crisis: Stay invested. Overall, that is what U.S. defined contribution (DC) participants did in 2008-09, when markets dropped as much as 49% and volatility hit an all-time high. The good news is the total value of DC assets had recovered by 2010, in less than three years.4 A similar statement can be made about Hong Kong’s Mandatory Provident Fund (MPF) scheme and Occupational Retirement Schemes Ordinance (ORSO) assets; both programs saw assets recover in one to two years (Exhibit 4).
After the 2008 financial crisis, the total value of Hong Kong retirement assets had recovered by 2009
Exhibit 4 : Hong kong mandatory provident fund and occupational retirement schemes ordinance - asset values
- For those in their 60s and/or near retirement: Hopefully, you have already taken action to de-risk your portfolios. We found many investors reluctant to de-risk at the end of the decadelong bull market—an example of emotions at play. If you didn’t de-risk before the recent downturn, you may want to consider controlling spending (saving more) and/or perhaps delaying retirement.
- For those already in retirement: Weigh the potential for minimizing sequence-of-return risk or dollar cost ravaging by timing your discretionary spending, when possible, to avoid withdrawing too much too early in retirement when markets are falling. Curtailing spending can be really helpful in preserving your portfolio. Also consider investing in strategies to diversify your portfolio more broadly. If you are able, try to stay invested for the long term. Retirement can last many decades, making it important to preserve your portfolio for as long as possible.
- Stay calm, carry on: Don’t focus on the short-term volatility of your account balances.
- If you don't need to raise cash for immediate spending purposes, stay invested.
In volatile times, you may be tempted to stop retirement investing or sell out of the market. In navigating these volatile times, it’s more important than ever to stay focused on what you can control—how much you save and spend, and how you are invested.
Re-evaluate your saving and spending behaviors to help grow and/or protect your retirement nest egg. Invest regularly to spread out risk while reaping the benefit of compounding assets. Stay invested, and diversified for better risk-adjusted returns with lower volatility over time.
Finally and most importantly, adjust your allocation over time as you move through different phases of your life and make sure the de-risking decision is not driven by emotions in the face of market volatility.
1 For illustrative purposes only based on current market conditions, subject to change from time to time. Not all investments are suitable for all investors. The exact allocation of a portfolio depends on each individual’s circumstance and market conditions. Diversification does not guarantee investment returns and does not eliminate the risk of loss.
2 J.P. Morgan Asset Management; analysis as of March 29, 2020.
3 Principles for a successful retirement, J.P. Morgan Asset Management, July 2019.
4 DC participant behavior in volatile times, Katherine Roy, J.P. Morgan Asset Management, April 2020.