Given the volatility of asset and commodity prices over the past 16 months, combined with the uncertainty individuals and businesses have felt, many people we talk to are wondering how they can build wealth in a post-pandemic world. To help you think through how to best position yourself for success, we would like to offer these five ideas for the rest of the year.
1. Don't Chase Past Performance: The tech sector has had an incredible run since the market bottomed in March 2020, but you don't get paid for what happened. Long-term wealth creation is not about pursuing fads or what has done well but positioning your portfolio to take advantage of the risk-factors that affect long-term expected returns (looking forward not backward). Therefore, review your goals and risk tolerance (both ability and willingness to take risk), then look at your portfolio allocation to make sure you are building a portfolio based on your goals and your ability and willingness to take risk, not based on how well Apple has performed.
2. Emergency Reserves: When times are good, many of us are inclined to assume that this trend will continue. Unfortunately, there will always be periods of volatility and therefore we need to plan for these periods regardless of whether we are feeling comfortable or not. We suggest that folks look at their budgets, and in particular discretionary spending, to see if there are areas like dining out that they cut back on during the pandemic, which can continue as reduced expenditures as life gets back to normal. For example, instead of spending money eating or ordering out 4-5 times a week, reduce this expense to 2-3 times per week and put the excess cash into a savings account. It may not be the sexiest strategy, but when a crisis occurs, you will not be thinking about those missed dinners because you will have a safety net that is independent of federal or state stimulus and/or unemployment.
3. Take Stock of Your Emotions: Every person has struggled at times over the past year, whether financially, emotionally, or mentally. We encourage all investors to review how they reacted to the market volatility over the past year. If you are not someone who checks your portfolio often but looked at your balance every day during the pandemic, perhaps your asset allocation is too aggressive. Your willingness to take risk is critical to designing an appropriate portfolio and the pandemic provided the perfect stress test for your emotions – don't let it pass without a self-debrief.
4. Doing Nothing is OK: Coming out of a crisis, there is a lot of marketing material that is produced trying to get investors to change their strategies because the world is completely different. In our opinion, unless the relationship between risk and return (e.g., if you take more risk, you should expect higher returns) has fundamentally changed, then most of the marketing material produced by the investment industry is not worth your time. Review your portfolio with an objective party such as your financial advisor or accountant, looking at your goals and risk tolerance. If there are no material changes to either your goals or risk tolerance, then doing nothing is a great strategy.
5. Set or Review Your Rebalance Strategy: No matter how comfortable you are with your portfolio and asset allocation, these are not stable variables. As markets move, the asset allocation of your portfolio will shift. In particular, after the recent stellar performance of stocks, it may be that your portfolio is more heavily invested in stocks than you would like. This is the perfect opportunity to set up a rebalance strategy. A rebalance strategy uses either tolerance ranges (e.g., invest 10% in US Large Cap Value and rebalance only if the allocation is below 8% or above 12%) or calendar periods (e.g., invest 10% in US Large Cap Value and rebalance every December) to keep your asset allocations consistent over time. Knowing that your portfolio will not expose you to too much or too little risk can help you maintain your allocation through different market cycles. Further, the process of rebalancing involves selling the appreciated asset(s) and buying the depreciated asset(s), locking you into a sell high, buy low strategy, which is key to long-term wealth creation.
It is perfectly normal as we emerge from the pandemic to feel euphoric or nervous about the future. What we encourage you to do is to have a discussion with someone you trust about whether your goals and risk tolerance have experienced material changes over the past 16 months. Only by exploring these foundations of wealth creation will you be able to decide if you need to make changes to your financial plan.