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R. Scott Maxwell, MBA

How has this painful market downturn affected you?

What questions are you asking and whose advice are you following as you sort through these uncertain times?

One of my clients recently asked me the question that is on the minds of most investors, namely “What should I do?” She is retired and takes monthly withdrawals from her portfolio to cover all her expenses. She is understandably worried about the future and wants to make sure she does not run out of money.

Here is the advice I offered my client (I edited out specific references to protect her privacy):

“I absolutely, positively encourage you to stay the course. Selling everything now is a bad idea for five simple reasons:

1) You will be able to make your monthly withdrawals now and in 2009 without touching your principal. As you know, we set aside enough cash in your account to cover several months of cash withdrawals so you would not need to worry about selling any of your portfolio to cover expenses. You still have over four months worth of cash set aside in your account and your portfolio will deliver a distribution in December with over nine months of additional cash. Your current cash plus December’s distribution will allow you to make your monthly withdrawals on schedule without ever touching your principal.

2) Your current portfolio should continue to generate your cash withdrawals without touching your principal. Your portfolio will have generated cash to cover all your withdrawal requirements in 2008. Your same portfolio of funds (even though you were not yet an investor with us) generated just over fourteen months worth of your cash requirements in 2007. You can assume your current portfolio will continue to generate ample cash for you to meet your budgetary needs in 2009 and into the future. This is on top of the cash your portfolio will create for you in December.

3) We planned for a potential market decline when we setup your portfolio. While dramatic, the painful drops in the worldwide stock markets were always a possibility and were factored into our analysis when we created your 50% equity/50% fixed income portfolio. The 50% of fixed income in your portfolio is protecting you from the steepest of market declines and generating the cash you need to fund your lifestyle without worrying about short-term market drops or selling anything at the worst possible time.

4) Your portfolio will not continue to create enough cash for your future living expenses if you sell everything now. Selling now eliminates any future cash distribution. Selling now locks in all your losses. Selling now means you will then start to eat into your principal with each month’s distribution, further reducing the amount of money you have for the future and putting your retirement at much greater risk.

5) The current market decline will not last forever and you want to be there to capture all of the available gains once they begin. Selling now means you will not only lose future cash distributions, but you will also lose out on some, if not all, of the growth from the capital appreciation that you could receive once the market begins its next up cycle. You want all of that gain, not just some of it. Selling now means you will be watching the market and worrying about when you should buy again. You will be just as worried about getting back in the market as you are now about getting out. One huge problem with trying to time the market is the fact you must guess right twice, not just once. You have to sell at the right time and buy back in at precisely the right time or sacrifice a significant portion of the gains available to you had you stayed in for the long-run. Remember, the 50% of your portfolio invested in globally diversified, low-cost, asset class stock funds is there to protect you against the ravages of inflation and the pain of higher taxes in the future. Your portfolio’s cash generation allows you to be patient and wait out the current declines without sacrificing your potential for maximizing your long-term gains and living a long and comfortable retirement.

You really are in good shape when you look at the way we created your portfolio. You can weather the storms without selling anything for a loss. You can consistently make your monthly withdrawals. You can afford to think long-term because you did everything right in the short-term. Stand your ground, take your monthly distributions and trust in the long-term.”

Yes, I had already covered this same information previously with my client as we discussed her goals and created her Investment Policy Statement.  But the potential for a market downturn and the realities of a down market are two very different things.

I was happy to speak with her and even more pleased to reassure her, knowing we had asked the right questions, done the hard work and put her best interests ahead of our own.

How about you? Have you yet asked the question? Do you know what to do?

Do you have a portfolio built for your unique objectives or did you succumb to a “product of the day” sales pitch or hot tip without regard to your short-term risk comfort level and long-term needs?

What did your broker tell you? What did you tell yourself? Did they (or you) even have an answer? If so, what will it cost you and what will you gain?

These are indeed tough times. Ask the right questions. Seek sound advice. Demand wise answers. Your peace of mind and perhaps even your retirement are at stake.

I sincerely wish you every success in your pursuit of Peaceful Wealth.