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Prepping your 401(k) to survive the bear market: Weigh your financial goals, stay out of cash

Market drops after Friday inflation report
Stock market drops Monday in response to Friday's inflation report 02:53

Stocks are in a bear market, inflation is at a 40-year high and economists are warning about a possible recession on the horizon. For millions of Americans saving for retirement, the economic turmoil has raised some big questions: Should they sell investments or stay the route? 

First, don't panic, experts say — that can lead to hasty financial decisions that you might regret later. As you survey the market, It's important to maintain focus squarely on your personal financial goals. 

The S&P 500 is down more than 21% since its most recent peak in January, which means it has entered a bear market — when stocks fall at least 20% from their previous peak. In fact, downturns of this scale are fairly common, with the last one occurring just two years ago when then pandemic shut down the U.S. economy. Yet younger investors who have never experienced such a decline and older investors who are closer to retirement might be tempted to bail or switch strategies. 

"Riding out market downturns is a good rule of thumb," Amy Richardson, a certified financial planner with Schwab Intelligent Portfolios Premium, told CBS MoneyWatch. "It's nearly impossible to try and time the markets, so it's important to have a strategy and remain clear about your personal financial goals."

Having a financial plan "can help you ignore the day-to-day market noise," she added. 

Don't try to time the market

There's a reason why you may have heard this many times: Investment professionals show that timing the market — or trying to guess when stocks are at their top or bottom — is nearly impossible. Research has shown that people who dump stocks during a market downturn are likely to miss the days when the market rises sharply, and that can make a dent in long-term returns. 

For instance, one study published by the investment organization CAIA found that a buy-and-hold investor would have an annual return of almost 10% from 1961 to 2015. But an investor who tried to time the market and missed the 25 best days during that period would have an annual return of less than 6%. 

To be sure, if an investor managed to avoid the worst 25 days during that period, their annualized return would have been more than 15%. But predicting both the worst and best days of the market is notoriously difficult, which is why investment pros recommend sticking with the "buy and hold" strategy. 

Should I move into cash?

Only if you need the money immediately or want to lock in losses, experts say. Acknowledging that it might be tempting to move into cash as a defensive measure, Richardson points out that cash's purchasing power erodes during periods of high inflation. 

The Federal Reserve's interest rate hikes are providing better returns to savings accounts and certificates of deposit (CDs), but they still trail far behind the rate of inflation. For instance, a one-year CD now offers a monthly yield of about 1.5%, up from about 0.7% in March, according to Ken Tumin of But in May, inflation jumped to 8.6%, which means that cash invested in a CD would see its buying power eroded by about 7%. 

That might still seem more appetizing than the steep investment losses incurred during a bear market, but you won't have the chance to make up those losses as you would in the market during periods when stocks rise. Limiting your exposure to cash during high inflation periods is a good idea, Richardson noted. 

"While it may not seem like it when the markets are falling, stocks have traditionally outpaced inflation over time," she said.

Should I stop contributing to my 401(k)?

Research has shown that consistent investing pays off over time. For instance, Charles Schwab looked at five different investing styles, ranging from trying to time the market to keeping everything in cash. The best performing strategy was the investor who managed to perfectly time the market — an impossibility for most investors, as noted above.

After that, the most effective strategy was one where an investor socked away money at the start of the year, followed by an approach called "dollar-cost averaging," or investing a set amount of money on a regular basis, such as monthly or with each paycheck. In other words, how most people invest in their 401(k)s. 

The worst performer? The investor who stuck with cash, Schwab found.

"I am a big believer in the adage that time in the market is more important than timing the market, and that means that any time you can set aside money to invest is a good time," Richardson noted. "If you have the ability to put more toward your 401(k) or other retirement accounts, this is as good a time as any."

Should I change my asset allocation? 

This could be a good time to talk with your financial adviser about your goals and to check whether your portfolio aligns with those objectives, experts say. That could result in an asset allocation shift if, for instance, you want to reduce your equity exposure to lower your risk or cut back on investments in certain sectors, like tech. 

"For most investors, the best approach to long-term success is broad diversification that aligns with their risk tolerance," Richardson said. "When you diversify your portfolio, you spread your money across different assets, understanding that all investments will go up and down at different times depending on different factors."

People who are close to retirement or already retired may want to add Treasury Inflation-Protected Securities, or TIPS, to their portfolio, she added. Investors can buy TIPS directly through the Treasury Department, or via their bank or broker. But an investor can only buy $10,000 worth of TIPS annually for each account, which limits the amount of inflation protection they can offer. 

"Commodities are also a good offset to inflation," Richardson added.

How long does a bear market last?

Since World War II, bear markets on average have taken 13 months to go from peak to trough and 27 months to return to breakeven. The S&P 500 index plunged an average of 33% during bear markets in that period. The biggest decline occurred in the 2007-2009 slump, when the S&P 500 fell 57%.

Bear markets tend to have three stages, according to Bank of America technical research strategist Stephen Suttmeier, who cited Wall Street legend Bob Farrell's "10 Market Rules to Remember" for investors anxious about the market downturn. 

The first stage is a sharp decline, followed by a rebound, and then a "drawn-out fundamental downtrend," he noted. 

"We are likely in the third stage, with risk to 3800 (20% correction) and even 3500 (27%) on the S&P 500," Suttmeier said in a research note. 

El-Erian says inflation could hit 9% 08:59

That means the stock market may not have hit bottom, with the S&P 500 trading at about 3,760 on Monday. But even if markets continue fading, investors should focus on valuations, given that the price-to-earnings ratio on the S&P 500 is now below its 25-year average, advised David Kelly, chief global strategist at JPMorgan Funds. 

"Whatever short-term cyclical journey the economy takes from here, it should, within a few years, resume a brighter path of moderate growth, low inflation and high profitability," Kelly said in a report. 

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