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All of us have watched our account balances plummet in 2008.
Some 401k investors allowed their emotions to get the better of them and reacted irrationally - selling their holdings in the midst the stock market meltdown which occurred in the latter half of 2008.
Unfortunately, many of these same participants missed this year's recovery.
I have seen 401(K) participants make very same mistake over and over.
I describe this type of a 401(k) plan participant as a "Knee Jerk Ned".
Knee Jerk Ned hears the news reports about a stock market meltdown.
Ned checks his 401(k) account and sees that his account balance has fallen significantly since he last reviewed his account.
Knee Jerk Ned thinks to himself "I've lost 15% of my 401(k) account - I should sell everything now or else I will lose it all".
Unfortunately, that's exactly what Knee Jerk Ned does.
He sells his stock mutual funds and moves his investments to cash or cash equivalent investments like GIC's (Guaranteed Investment Contracts).
Essentially, Knee Jerk Ned is an example of a market timer of the worst kind.
Often, Knee Jerk Ned spends the next several weeks or months un-invested.
This means that Knee Jerk Ned usually misses the inevitable market recovery such as the one which has occurred this year.
Afraid to lose more, Knee Jerk Ned sits "on the sidelines" while his account is invested in cash or cash equivalents like GICs (Guaranteed Investment Contracts).
The result is that Knee Jerk Ned not only locked in his losses by selling after a market correction, he usually misses the inevitable rebound in stocks too.
Apparently, Ned doesn't know that the stock market has always recovered in the past.
Instead, he focuses on the hysteria of the present.
Knee Jerk Ned's emotional reaction sabotages his investment performance by following the herd.
He pulls out of his stock based investments after the market has run its course.
How can you avoid making this mistake? How can you keep your own emotions in check while the markets dip and dive? My recommendations are as follows: 1)Maintain a long term investment perspective Just remember that over longer periods of time, stocks have always outperformed bonds and cash.
In fact, I recommend that investors who have longer time horizons to think of market declines as prime times to do just the opposite of what their emotions are saying.
Instead of seeing such declines as a reason to sell - look at market declines as the time when the stock market is "on sale" and to buy.
2)Limit your reviews of your 401K account Recognize that your emotions are influencing your better judgment.
If you have trouble seeing short term declines in your 401(k) account balance as just part of the normal ebb and flow of investing, stop looking! Personally, I limit myself to a single monthly "quick glance" and only one quarterly review of my retirement portfolio.
3)Reduce the amount of financial news you watch If you find that the media's coverage of financial news results in you worrying about your 401(k) account performance - just stop watching the coverage! I know that is hard to do.
In recent years there has been an explosion in the amount of financial coverage available.
Unfortunately, I find all the additional financial news available to be mostly of entertainment value.
Just ignore the hype! I believe that simply cutting down on your consumption of financial reporting can help you act more rationally when investing.
4)Continue to invest Just look at any multi-year stock market performance chart.
Given enough time, stocks recover.
They have always recovered.
Unless history stops repeating itself, stocks will continue to recover.
So when the stock market declines, look at such opportunities as times that stocks are "on sale".
If you keep investing during such decline and have enough time, I believe you will prosper.
5)Be Patient Remember that given enough time, stocks have always recovered.
If you have invested in well managed mutual funds, allow the managers of the fund time to work on your behalf.
Simply put, keeping your cool in times of market volatility can lead to a larger retirement pot of money when you go to retire.
Don't act rashly.
Investing in well managed mutual funds is part of the solution.
Give these talented mutual fund managers time to ride out the inevitable dips in the market.
Unless history stops repeating, your account will not only recover, you will prosper.
Copyright © 2009 by Jeff Brownlee
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