At Blackdown Financial our investment portfolios are comprised of three asset classes – cash, bonds and equities (we use real estate investment trusts for property exposure).
These can be likened to the lanes of a motorway, with cash as the slow lane, bonds the middle lane and equities the fast lane.
If we were driving on a long journey from say Taunton to Scotland it is probable we would use the middle and outside lanes predominantly in the same way as investors with long-time horizons would have portfolios predominantly with equities and bonds.
As we approach our destination it would be prudent to move to the inside and middle lanes as we approach the motorway exit. In the same way with investing if we need a specific sum at a specific date in the future it is prudent to gradually move towards bonds and cash as we get closer to the time it is needed to avoid the short term volatility of equities which could be painful if the markets correct just before the money is needed.
Consider the situation where you have just started out on this long journey and are using the middle and outside lanes but get caught in heavy traffic almost straight away. You then notice the slow lane is going more quickly, what do you do?
I have often seen drivers changing lanes in an attempt to get ahead which might increase the chance of an accident and in my experience by staying in the lane you are in, you end up catching up with the car lane hopping not far up the road.
This can be compared to investing when there will undoubtedly be times where cash and bonds outperform equities particularly during times of market stress but the opposite will also be true for the majority of times when equities and bonds outperform cash.
The key here is not to react to short-term situations and by doing nothing this often results in a better long-term outcome.
To do nothing in times of market stress can be very difficult as it is often accompanied by a wall of negative stories from the media. It is times like this when financial planners really earn their fees by helping their clients not to react and keep focused on the long term journey they are on.