What to Do When Markets Change Direction

It is natural to worry when markets start trending down. Indeed, sell-offs can be painful, especially when they happen quickly. Such concerns can easily be amplified by a 24-hour news cycle that bombards you with negative returns and doomsday prognostications.  

But long-term investors should expect market declines—even steep and sudden ones. They are part of a normal market cycle. 

That said, you are not powerless during a market downturn, and you should keep these important points in mind to help you respond strategically. 

Expect the Unexpected 

First, remember that markets are unpredictable and volatile. To explain why, let’s revisit one of our favorite charts. It illustrates that, on average, investors in U.S. large cap stocks have historically experienced intra-year declines of 14.1%. Of course, many times these declines occur over multiple weeks and months—a different kind of pain, but painful nonetheless. 

We put up with these roller coaster rides because we know that, in the long run, the stock market has been more positive than it has been negative. In the past 45 years, over 75% have been positive—and that’s excluding dividends!

While volatility is normal, downturns can understandably shake investor confidence. Therefore, it’s important to put such events into context so that you can more confidently adhere to your long-term investment plan with confidence. Here are some helpful reminders: 

• The Global Financial Crisis (GFC) of 2007-2008 was an unusual event. When markets trend downward, you might worry that it’s the start of a sustained collapse. But think back to the last major market crisis, the GFC, when markets plunged and remained depressed due to a systemic problem across the global economy. In contrast, most market downturns are less severe and less prolonged, and they are the result of limited, short-term factors, not widespread issues (even the COVID-19 scare only produced a short-term shock to market returns and was quickly followed by a robust rebound). 
• No pain, no gain. Since the S&P 500 reached its bottom in 2009, it’s increased 769%, excluding dividends, through December 31, 2024. To earn this level of return, though, investors have had to endure volatility along the way (e.g., the 34% decline from February to March of 2020 and the 25% decline from January to October of 2022). 
• Remember why you diversify. Diversification reduces the risk of major losses that can occur when you over-emphasize a single security or asset class. It can help protect your capital when a particular segment or region experiences a shock. Remember that diversification is most powerful when you hold “uncorrelated” assets—meaning assets that react differently to the same economic event, such as increased interest rates or a recession in a particular geographic region. 

How We Take Advantage of Market Declines 

Although market declines can be painful, they also provide strategic opportunities to lessen their impact. At Truepoint, during down markets, we especially focus on: 

• Portfolio rebalancing. Rebalancing involves buying and selling assets to return your portfolio to its desired strategic allocation. During bear markets, this often means trimming from bonds to buy stocks that have fallen in value and therefore have a reduced weight in your total portfolio. By rebalancing your asset mix, you can restore your portfolio’s risk/reward profile and make sure your portfolio is positioned to maximize participation when the stock market rebounds. 
• Tax-loss harvesting. A market downturn potentially provides opportunities for tax-loss harvesting, a strategy in which you intentionally sell investments with capital losses and immediately purchase a similar (but not identical) investment. These losses can be used to offset capital gains or even a portion of your ordinary income. Realized losses carry forward to future tax years until fully utilized. Tax-loss harvesting is a strategic way to reduce your tax bill while remaining invested during a volatile market environment. 
• Invest excess cash. Bear markets also provide the opportunity to buy stocks at a discount. As the saying goes, buy low, sell high. Although we do not recommend market timing, if you do have idle cash on hand (meaning you do not need it in the next three to five years), this can be an opportune time to invest it. 

But What if This Time Is Different? 

Investors often wonder that the current downturn is somehow different from previous market events—that it represents a cataclysmic shift or a “new normal.” Such thinking often triggers the urge to sell right away, before the bottom drops out. 

Such emotional decision making rarely, if ever, pays off. Market timing requires investors to predict the future accurately not once, but twice: you must sell before the markets hit bottom and buy back immediately before the rebound begins. In fact, investors who try to predict the market usually end up on the sidelines, and they miss out on the earliest—and often steepest—stages of the rebound.  

Resist the doomsday premonitions and stick with your long-term plan, which was designed to account for both bull and bear markets. 

At Truepoint, we construct portfolios using historical market data, which includes extended market downturns. With a diversified portfolio and a long-term plan, you will benefit from staying the course instead of using emotions and hunches to steer your portfolio. 

We’re here to counsel you during stressful times and to help keep you on the path we have charted together. As always, please feel free to give us a call if you’d like to talk.