The start of 2022 has been interesting, to say the least, from a stock market perspective. Stocks slumped for much of January and February before staging a modest comeback later in March. But with so much uncertainty abounding between inflation and the ongoing crisis overseas, we can’t write off the possibility of a full-blown market crash in the not-so-distant future.
Even if stocks don’t crash this year, the harsh reality is that they’re apt to tank at some point. And it’s important to be ready. Here’s how to prepare your portfolio for a downturn.
1. Sock plenty of money away in the bank
What does your bank account balance have to do with your stock portfolio? Plenty, actually.
When stock values plummet, the most important thing to do is sit back and leave your portfolio alone. But that’s a harder thing to do if a need for money arises and you need to liquidate investments to access it.
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That’s why it’s so important to have an adequate level of cash reserves in the bank. That way, you’ll have money to access in a pinch — money that could help you avoid losses.
So how much cash should you tie up in a bank account? As a general rule, you want enough to cover at least three months of essentials bills. For better protection, aim for six months’ worth of bills.
If you’re the sole breadwinner in your household with a lot of dependents and your income is variable, you may even want to aim a little higher. Some financial experts will tell you it’s not a bad idea to sock away a year’s worth of living costs. For some people, that may be overkill, but if you want that peace of mind, go for it.
2. Make sure your asset allocation is spot-on
Stocks may be risky, but they’re known to lend to steady, solid growth. That’s why your portfolio should be loaded with them when retirement is many years away.
But as that milestone nears, it’s important to start scaling back on stocks and shift over to bonds. That way, your retirement plans won’t necessarily be upended due to a market crash.
To be clear, though, you don’t want to unload your stocks completely. Rather, you want to scale back so that by your mid-60s, when retirement could happen imminently, you’re only about 50% invested in stocks, with the rest of your money in safer alternatives.
3. Maintain a diverse investment mix
When the broad market tanks, your portfolio value is likely to follow suit regardless of which specific stocks you own. But you may be able to minimize the pain by maintaining a different mix of stocks.
It’s often the case that when stocks experience a downturn, certain sectors are affected more so than others. Just look at what’s been happening to tech stocks this year, for example. The more you diversify, the better protection you can buy yourself.
Now there are different ways you can diversify. You could aim to own companies across different industries, or you could simply the process by owning broad market ETFs, or exchange traded funds.
When you buy shares of an ETF, you get to own many different companies with a single investment — only without the research that might go into choosing companies individually. In fact, ETFs are a great choice if you’re more of a hands-off saver who wants to enjoy solid gains over time without the stress of having to make investing decisions.
We don’t know when stocks will crash next, but unfortunately, it’s likely to happen at some point or another. Taking these steps will make it easier to weather that storm and come out unharmed.
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