Most of us are awaiting the end of 2020 when we can take a sigh of relief and look forward with the hope for a better 2021. As we reflect on a challenging year, we have an opportunity to reflect on lessons for a better life.
Many investors lived through the tech bubble expansion in the late 1990s followed by the bursting of the bubble in 2000, the 9/11 attacks in 2001, the Great Recession in 2008/2009 and now COVID-19 in 2020. In between those larger events were short events that affected market returns significantly.
Market volatility in 2020 set records and will forever live on in the history books. The year provided opportunity for many financial lessons and at the same time revealed a renewed focus on what people find most important in life. Some of the most important lessons of 2020 were:
Emergency reserve funds
The shutdown of the economy and the sudden loss of jobs combined with the uncertainty of when those jobs would return threw many families into a state of constant worry and financial stress. Unprecedented government support payments helped, but did not eliminate, the pain.
A proper emergency reserve has been a differentiator between those who might have lost homes or businesses and those who have not. We usually recommend holding a minimum of three months, and preferably six months of your monthly living expenses in a stable interest-bearing account. The COVID shutdowns illuminated the potential perils of only three months when considering that many businesses are not fully open yet.
It became very clear in working with clients that monthly spending had dropped significantly as most of our expenses during shutdown were for necessary items. Being locked down at home helped many people reassess what they spend their money on to determine if those expenses are adding value to their life.
This is a normal part of budgeting that very few people do in the current age, but it can uncover many ways to save money for the future or pay down debt.
Clear investment strategy
An investment strategy should incorporate your individual risk tolerance for market volatility, your objectives for returns, an appropriate asset allocation and diversification strategy, preferences for types of investments and liquidity needs.
Portfolios are typically built with the consideration of two important things: The markets will experience periods of heavy asset price fluctuation, and no one knows the timing and magnitude of those fluctuations. That means investing for the long term and setting your risk tolerance to accept a certain amount of volatility in exchange for a reasonable return expectation through time.
Market actions during a month or a quarter, and in many cases a year, have shown to mean nothing duringa lifetime of investing.
People with a portfolio of stocks and bonds who rebalanced their portfolio in March sold bonds that had appreciated in value at the height of COVID shutdowns and bought stocks that had dropped significantly, thereby selling high and buying low.
A portfolio will drift from the initial structure during time and needs to be rebalanced to bring it back in line with objectives. Portfolios should be rebalanced at least annually, with an optimal frequency of quarterly.
Importance of Friends and Family
This is the most heartwarming of all the lessons. Many people have affirmed that many of their goals only have meaning if they can share them with friends and family. This has helped people focus less on the daily movements of markets and their account balance to focus more on spending time with family and friends in the pursuit of their goals.
Financial advice should create a solid foundation that allows people to focus on the non-financial aspects of life that have more meaning.
People with a financial plan have a roadmap in place that anticipates periods of difficulty mixed in with periods of prosperity. Therefore, no matter what comes, they always know where they stand in terms of their life goals.
The views expressed here reflect the views of Timothy Breitfelder as of 11/13/2020. These views may change as market or other conditions change. Actual investments or investment decisions made by Ameriprise Financial and its affiliates, whether for its own account or on behalf of clients, will not necessarily reflect the views expressed. This information is not intended to provide investment advice and does not account for individual investor circumstances.