Market Realist Chronicles: Protect your investments from a stock market bubble (Part 5 of 5)
Are you gambling or investing?
If earnings are strong, the market may sustain its current level a while longer. You have two options: gamble your money or invest your money.
As a prudent investor, you exercise proper risk management. So in a situation like this, you should start making profits—if you haven’t already—before the market takes your profits instead.
You don’t need to completely exit the U.S. stock market. But you should reallocate properly. Your best defense against an uncertain market is to diversify.
You should diversify your portfolio across industries within the equity market. But you should also invest in other asset classes and geographies. You can access most classes and geographies through ETFs. You can easily buy and sell ETFs—like shares.
How to reallocate in the current environment
When the markets are shaky, usually, emerging market equities suffer first. But, given the relatively cheap valuations in emerging markets, divesting now may not be your best option.
An area of the market that’s likely to be unstable is small caps. This proved true on Monday, July 7. Small caps dropped over 1%, while bigger stocks barely budged. One way to de-risk your equity exposure is to divest from smaller-cap stocks and indices like the Russell 2000. The larger blue chip stocks, like those in the S&P500, are likely more resilient when equity investors flee the market.
Finally, it’s always a good idea to keep part of your portfolio in bonds. Corporate bonds offer a relatively safe place to park cash. Last week, investment-grade corporate bonds had one of the largest inflows into the asset class this year. Corporate bonds would benefit from corporate spread compression if the economy improved and benefit from a drop in interest rates if the economy weakened.
Whatever you do, don’t stand by the sidelines, thinking “this doesn’t feel right” and waiting for the market to prove you right. A gain is a gain. So stop procrastinating and do your homework. Diversify and profit. Market Realist shows you how with quality research from real financial analysts to help you make the best decisions for your portfolio.
Read our previous Market Realist Chronicles issue, Time to stop procrastinating!
Browse this series on Market Realist:
- Part 1 - A simple framework for deciding if you should stay in stocks
- Part 2 - Is the price-to-earnings ratio really that useful?
- Part 3 - Must-know: Are stocks right now cheap or expensive?
- stock market bubble