How to stay the course during a market downturn

The best time to prepare for a market downturn is before one begins, because decisions made in advance are easier to keep when prices are falling. Staying the course means following an investment plan set out beforehand, including its target mix, contribution schedule and rules for rebalancing, even while prices drop and headlines sound alarming. It does not mean ignoring risk or refusing to change anything. It means separating changes that reflect your goals from reactions to a frightening stretch of prices.

The sections below cover why declines are a normal part of investing, what to do before one starts, how to act while prices are falling and when a plan should change. None of this is a promise about how any particular market will behave, and the right approach depends on your own time horizon and finances.

Declines are a normal part of investing

Stock markets have historically experienced periods of sharp decline, and bond markets can also fall, particularly when interest rates rise. Those declines have no fixed length, and nobody can reliably say in advance when prices will recover or how far they might fall. Investors who sell during a decline often lock in losses and then face a second decision about when to return, which can be just as hard. That is one reason plans are usually built around a time horizon and a tolerance for losses rather than an expectation that prices always rise.

Diversification does not prevent losses during a broad downturn, because many kinds of assets can fall together. It can, however, reduce the damage from problems confined to a single company, sector or country, which is one reason a concentrated position deserves extra scrutiny before a decline arrives.

A decline does not automatically mean a plan has failed. If the money is not needed for many years and the investor understood the possibility of losses when investing, a falling balance is an expected part of the arrangement, even if it is an uncomfortable one.

Preparing before a decline begins

Preparation does most of the work. Write a short investment plan that states your goals, your target mix of stocks, bonds and cash, how often you will review the portfolio and the conditions that would trigger rebalancing. Add a note describing what you will do during a decline, including the actions you will not take, such as selling everything after a bad week. Keep the note where you will find it when prices are falling.

Two practical points deserve attention as well. An emergency reserve in cash or cash-like holdings, sized to your regular expenses, reduces the chance that a downturn forces you to sell investments to pay bills. It also helps to confirm that the portfolio's overall risk matches what you can tolerate both financially and emotionally, because a mix that feels acceptable in calm markets can feel very different during a sharp fall.

Acting calmly while prices fall

When prices are falling, reduce how often you check the account. Frequent checking makes each movement feel more threatening and invites a response to every change. If your plan calls for rebalancing, following it can mean buying holdings that have fallen relative to the rest of the portfolio. That is uncomfortable, but it is consistent with a plan designed to hold a steady mix. Regular contributions also buy shares at lower prices during a decline. This approach is often called dollar-cost averaging, and it is a way of investing on a schedule rather than a promise of better results.

Before making any change during a decline, it helps to answer a few questions in writing. Has your goal changed? Has your time horizon or income changed? Is the decision based on new information about your situation, or only on the recent price? If the honest answers point to price alone, the existing plan is probably the better guide.

If a downturn starts to affect your health, sleep or household finances, speak with a qualified professional, such as a financial adviser or a doctor. Staying calm is easier when the cash needed for near-term expenses is already set aside, and a professional can help confirm that it is.

When a plan should change

Not every change is a mistake. A plan should change when your goals, time horizon, income or capacity to absorb losses changes, such as a planned home purchase moving closer or a job loss affecting savings. A plan should not change simply because prices have fallen or because a headline predicts further declines. If you do decide to change your mix, write down the reason and the new rule, and review the decision after a waiting period rather than acting on the same day the news arrives.

A downturn tests whether a plan was built to fit your life or only to fit the good years. The practical goal is to make the key decisions in advance, so they are already made when the news is loudest. Staying the course does not require certainty about the future. It requires the discipline to follow a plan you understood before prices began to fall. For major decisions, especially when money is needed in the short term, a qualified financial adviser can review your situation directly.