Key Points
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The S&P 500’s 4.4% sell-off, seemingly out of nowhere last Thursday, is a reminder that the market is capable of dishing out damage in a hurry, without warning.
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Just don’t lose perspective on it. Such plunges can be expected from time to time and don’t have a lasting impact on the market’s long-term performance.
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Diversification remains the best defense against unpredictable setbacks. Just know there’s more than one kind of diversification.
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The dust from last Thursday’s steep sell-off may be settling. But the echoes of the S&P 500‘s (SNPINDEX: ^GSPC) one-day 4.36% drubbing are still ringing as a reminder of what can happen without warning.
There’s nothing that can be retroactively done about it now; you were either ready for it, or you weren’t. You can protect your portfolio from the next such plunge, though (whenever it might materialize) with just a few simple measures.
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Allocate for the unknown and the unpredictable
Most investors understand the benefits of diversification. Many of them don’t keep their portfolios sufficiently diversified at all times, allowing them to take on too much exposure to the market’s hottest sectors and to under-own less-exciting ones.
But your allocation isn’t just about making sure you own a piece of every sector to ensure you’ve got exposure to whichever group of stocks is performing best at any given time. It’s also a means of making sure you don’t own too much of a crumbling group — like AI tech stocks right now — and that you’ve got some exposure to the areas that are holding up better in bearish environments. And confidence in your portfolio’s overall ability to survive setbacks means you’re not going to make bad panic-prompted decisions.
Just make sure you’re re rebalancing your allocation on a regular basis.
Diversify beyond common conventional stocks
Smarter sector allocations alone won’t necessarily prevent your portfolio from being dragged lower by a broad sell-off, though. It will only mute its impact and leave you well positioned for the eventual bounceback.
Rather, if you want a portion of your portfolio to simply sidestep the entirety of a crash, you must own assets that aren’t stocks at all. These include bonds and commodities (like gold), of course, but it can also mean real estate. These investments often move completely independently of the stock market.
Remember what really matters
Finally, don’t forget that investing is a marathon rather than a sprint … a race won by people who don’t flinch every time the stock market suffers a surprise setback. If you own quality names built to last, you’ll be fine in the long run, despite the occasional day like last Thursday.
Maintaining this mindset obviously wouldn’t have prevented your portfolio from taking its lumps that day, no matter how well diversified it was at the time. Recognizing it was just short-term noise, however, makes it easier to keep plunges like this in perspective; they don’t necessarily require a response or any action from you.
This might help: While last Thursday was the index’s biggest single-day loss since April of last year, the S&P 500 is still up nearly 8% year to date, and 67% higher for the past three years. One bad day clearly didn’t wreck these longer-term gains.
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James Brumley has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
