Credit Spreads Aren’t a Reason to Alter Bond Allocations

As a follow-up to last week’s commentary about the recent bout of downside volatility and how many stocks are performing worse than the major indexes, I want to discuss strategies this week. Specifically, actionable steps you can take between now and the end of the year.

None of these will be purely tactical in nature (e.g., “reduce your exposure to tech stocks”) because my crystal ball remains cracked. In fact, they don’t require a forecast to be correct at all. Rather, these action items are meant to be an outlet for your emotions by giving you something rational you can do now.

Accelerate Your Retirement Savings Contributions: If you’re making regular contributions to an individual retirement account (IRA), a Roth IRA or a similar type of account, consider making a single large contribution now instead of several smaller contributions between now and the end of the year (or by next April). Doing so will put extra cash into your account to invest should the markets dip further. Establish a decline percentage you’d invest contributed cash at if stocks fell that far (e.g., the S&P 500 index falls 15% from its high) and a date you’ll invest any excess cash in your account if the drop doesn’t occur by then (e.g., December 31). This is what I did in February with my then-remaining 2017 IRA contributions.

Go Bargain Hunting: If there is a stock you told yourself you’d buy if it got cheap enough, don’t just stand there, go look at it. See where its price is, what its valuation currently is and how sound its underlying fundamentals are. While it’s very hard to know where the bottom will be in advance, if you don’t look at the stock at least periodically, your odds of catching it while it’s on sale will be very low.

Review Your Tax Exposure: We don’t think investors should let the tax tail wag the portfolio dog, but if you have stocks that you were considering parting with or that could violate your sell rules if their third-quarter earnings disappoint, it makes sense to take inventory of your tax situation. Losses offset gains and you can deduct up to $3,000 of net losses (losses in excess of gains) per tax year.

Consider a Roth IRA Conversion: The Tax Cuts and Jobs Act (TCJA) makes it cheaper for many people to convert a traditional IRA to a Roth IRA because of the lowered marginal tax rates. Assessing your tax situation now will give you an estimate of how much you can move over to a Roth without being bumped into a higher tax bracket. Plus, if you do a conversion when your IRA is below its peak balance, you can convert a larger percentage of assets for the same dollar amount. Just keep in mind that Roth IRA conversions are permanent; the TCJA outlawed Roth IRA recharacterizations.

If Nearing Retirement, Build a Cash Bucket: One of the biggest financial threats facing new retirees is a bear market occurring within a few years of retiring. Having an allocation to cash, cash equivalents and/or high-quality, short-term bonds that equals to two to five years of estimated withdrawals will allow you to avoid touching your equity allocation while stock prices are down. I’m not expecting a bear market to start in the short term, but eventually one will happen simply because bear markets periodically occur.

Check Your Portfolio Allocations to See If They’re Still Close to Target: If you haven’t looked at your portfolio’s weightings to various asset classes in a while, now is a good time to do so. If they’re off-target by, say, five or 10 percentage points, adjust them back to target.

Ladder Bonds and CDs: If it’s rising interest rates that have you concerned, consider diversifying the duration of your cash and bond allocations. Buying bonds and certificates of deposit (CDs) of varying maturities allows you to pivot to future rate environments without relying on potentially incorrect forecasts. As your shorter-term investments mature, you’ll be able to reinvest the proceeds at the then-prevailing yields while still having exposure to the current longer-term rates. Though the monetary policy is being tightened now, it will likely be loosened whenever the next recession occurs.

Stop Looking at the Market So Much: While this may sound silly, the less frequently you look at the stock market, the less volatile it will seem. Despite the 24/7 flow of news and information, you can get away with looking at your portfolio less frequently than you may think. AAII’s model portfolios have realized long-term outperformance by mostly limiting portfolio changes. Changes, when there is a transaction to be made, occur in our Stock Superstars Report just once a month and in our  Model Shadow Stock Portfolio just once every three months.