The Question

By Brad Thomason, CPA
 
​It’s quite possible that here lately you have been asking yourself whether the market will go up or go down from present levels.
 
Today I’d like to suggest a different question for you to consider. 

If you go ahead and assume that the market falls significantly from here, what would you do about that?  

I’m not saying I think it will.  I’m just asking you to imagine what you would do about it if it did.
 
The first thing to make note of I think, is that the implications are different for someone who hasn’t retired yet retired, than they are for someone who has.
 
If you haven’t retired, the answer is that you probably wouldn’t do much of anything.  It’s not so much that you aren’t impacted; but it probably doesn’t have any immediate effect on you.  And once the price decline bottoms out and starts going back the other way, new money put into the market during such periods typically does pretty well.
 
It’s potentially a whole other story though for someone who has already retired, though.
 
We do not believe that it is a foregone conclusion, no matter who you are, that you have to have a stock allocation, at all.  Stocks aren’t the only way to deploy capital in pursuit of meaningful returns.  We further believe that if you have already retired, there’s a pretty good argument that you shouldn’t have a stock allocation.  We’ve articulated this viewpoint in any number of past blogs and presentations, spanning a period of many years.
 
That said, if you are going to have stocks in the mix after retirement, you have an engineering issue to deal with: how you will handle “the V.” 
 
The V is the dip in the price chart that takes places any time there’s a major market downturn.  It’s the period of time from start of the fall, until the price eventually makes it back up to its former level.
 
The V associated with the Tech Bubble lasted from the summer of 2000 until the spring of 2007 (about 7 years).
 
The V associated with the Financial Crisis lasted from about August 2007 to November of 2012 (a bit over 5 years).
 
The V is extremely significant for those who are already relying on their portfolio/savings to fund monthly income.  That’s because anything you withdraw during the entire run of the V will never have a chance to recover its lost value (at least not all of it). 
 
So not only will the block of capital associated with your stock allocation not earn anything for a period of months or years, without some sort of per-planned means of coping with it, the V will force you to lock in some losses as well.  A true case of adding insult to injury (or maybe just adding injury to other injury).
 
There are two broad approaches for dealing with a V.  If you remain invested in stocks, the goal becomes to diminish the effect of the V.  This can be accomplished by taking steps (whether through active management, derivatives, etc) to either shorten the duration of your personal version of the V, lessen the degree of your V’s decline, or some combination of the two.  A briefer V decreases the number of months that the withdrawals should ideally be put on hold; a shallower V means that the losses you book are not (quite…) as serious.  But do note that under any of these scenarios you don’t come out unscathed.  Maybe just less injured.
 
The other approach is to diversify to other asset classes, and use those other allocations to supply income until the V is over.  If all of your money is in stocks, waiting it out probably isn’t an option.  If most of your money is elsewhere, it might be possible.  It might even be easy.  Just depends on how much of the capital is outside of stocks (prior to the beginning of the V) and what it’s earning.
 
As you might expect, none of these workarounds just happen.  They require thought, planning , and most of all, action.  Once you figure out what you ought to do, you still have to do it.
 
While everyone is attracted to the idea of seeing their money grow because the market keeps inching higher, there’s no getting around the fact that making money is not the only important consideration.  Making it and then losing it yields no benefit; and is actually harder on a person, psychologically speaking, than never having had the money in the first place.
 
So while it is natural to have some preoccupation with the question of whether or not the market will go up from here, a more useful question to focus on may be what you are going to have to do if it goes down.  That second question may give you much clearer guidance on what your next step ought to be, than the first one.