The markets are falling, what do we do?

Stock markets are down for the 7th week in a row. On the U.S. side, the S&P 500 index of large-cap stocks is down about 20% since its peak in early January. The NASDAQ 100 index is down nearly 30%. Canadian stocks are doing much better, however, with a decline of less than 5%.

To make matters worse, bonds did not play their usual stabilizing role at the beginning of the year, falling victim to rising interest rates. They are down by almost 12% in 2022. As a result, the so-called "balanced" portfolio - invested 60% in equities and 40% in bonds - has lost about 10% of its value this year.

We know the culprit: inflation, which is forcing central banks to turn around. They are raising interest rates to curb inflation when until recently they were doing exactly the opposite, injecting liquidity into the system (not to mention that governments were doing the same thing). The markets are now concerned that this sudden tightening of the brakes by the central banks will lead to a recession.

In this context, what should retirement investors do?

A little perspective

As unpleasant as it is, the current decline in the stock market indices is not unusual. The S&P 500 experiences a decline of 20% or more (a bear market) every 4 years on average and a decline of 10% every 20 months.

Despite these declines, the balanced portfolio has been generating returns year in and year out to help investors meet their retirement goals for generations. This generation will be no exception. In fact, despite the recent decline in stocks and bonds, the annual return of the balanced portfolio remains above 4% over 3 years as well as over 5 years.

In addition, it is possible, even likely, that the bulk of the decline in bonds is behind us. In fact, they have already started to play their stabilizing role in a balanced portfolio: they tend to rise when stocks fall and vice versa. Not to mention that they pay interest of about 3% annually.

So, what does this mean for our retirement plans?

Your retirement is 10 years or more away

If you are young (under 50!), in the asset accumulation phase and retirement is still far off, the drop in stock market indices is an opportunity to acquire shares at a discount. So don't change your savings and investment habits. If you have cash sitting in the bank or in guaranteed investment certificates, now may be the time to invest it. No one knows if stock prices will go up or down tomorrow, next month or next year. By the time you retire, however, they will likely have doubled or tripled in value, thanks in part to the annual dividend they pay (about 2.5% in Canada).

You are about to retire or already retired

If you are approaching retirement age or are already there, you need to have a financial plan and retirement projections based on realistic return assumptions. Using the standard assumptions of the Institut québécois de la planification financière - themselves based on the assumptions used by the Quebec Pension Plan and the Canada Pension Plan - we arrive at an annual return of about 4% (after fees) for a balanced portfolio, precisely what the markets have delivered over 3 and 5 years.

Your plan should also include some leeway and flexibility on the expense side in case the markets are slow to recover. If your plan assumes a 4% return (and 2% inflation) over the long term, there's no need to worry.

If your return assumptions are more like 6%, the markets have just called you to task and it would be a good idea to revise your plan.

Mistakes to avoid

Most investors are quite comfortable with these volatile periods in the financial markets. They read the bear market articles and are aware that the value of their investments (if they look at them!) is falling. This doesn't stop them from sleeping well at night and enjoying life, knowing that none of this has any real impact on them and their future. Many will even add to their investments to take advantage of the decline. Good for them!

Other investors unfortunately seem unable to tolerate volatility. Some experience these market declines as an existential threat and - like Homer with his overactive survival instinct - are tempted to sell everything. Of course, they rationalize that they are "protecting" their capital. It can't be said enough: this is the worst thing they can do. Not only do these investors miss out on the inevitable rebound that follows the decline, but they also cut themselves off from the regular dividends that underpin their retirement plan.

Talk to your advisor

If you have any concerns about the strength of your financial plan or investment portfolio, call your advisor. He or she will be able to answer your questions.

Otherwise, the best advice we can give you is to forget about the ups and downs of the stock market and go play outside. Quebec is at its best in May and June. Take advantage of it!