Can Your 401K Stand Another 10% Loss?

Dateline: May 11, 2011
Wall Street

Stock markets tumbled substantially on Monday and Tuesday this week with the Dow losing nearly 200 points over the two days. Analysts blame equity losses on a pull-back in commodities futures, particularly oil, gas, heating oil, and gold. Market strategist, Peter Boockvar, at Miller Tabak & Co. told MarketWatch, "The correction in commodities...should not be ignored and will be the precursor to a painful 10%-plus correction in stocks over the next few months."

This is bad news for the private investors who have not been able to recover the 30-40% losses in their 401K and personal investments sustained in 2008 due to the crisis in the banking and housing markets. Can your 401K stand another 10% loss in a market correction that some analysts say is coming in 2011? Most private investors would say no.

The problem is, the average Joe and Jane with his or her nest egg invested in the financial markets receives so much conflicting advice, it prevents them from taking any steps at all to preserve capital or, at the very least, minimize their losses. Case in point: while strategists like Boockvar are telling us to brace for a 10% loss, others like Phil Orlando, chief equity market strategist at Federated Investors doesn't seem so sure. MarketWatch quotes him saying that the sharp retreat is "related to swings in the currency and commodities market, and I'm hoping those issues are transitory." Translation: The commodities traders are taking some profits and everything will settle down soon.

Is Orlando whistling past the graveyard or is Boockvar irrationally pessimistic? And what should we think of those pundits who insist that we "stay the course" and stay fully invested no matter how bad things seem. The Market, the say, always bounces back. The "Big Boy" investors, like billionaire Warren Buffet, says that in uncertain markets, cash is always king. It's hard to argue with a guy who's worth billions. But, who should we listen to and who should we believe right now?

Maybe we should believe all of them and adjust our investment portfolios accordingly. Based upon an expectation of a 10% decline in the Market, it might be wise to move some more (but not all) of our investments out of stocks and into bonds or money markets. That way, we are at least proactive in trying to protect our capital from a predicted loss. At the same time, we remain partly invested in equities so we won't miss out on potential gains should the Market make an unexpected bounce to new highs. And, by converting at least some of our money to cash (Treasuries, Money Markets) we give a nod to the advice of the "cash is king" Big Boys. Certainly, this is one way to respond to all the conflicting advice.

Another response is to stop worrying and simply ignore the chatter of the talking heads who grasp at straws to sensationalize or explain away the quite normal ebb and flow of the stock market. Depending upon how badly they believe they have been savaged by the Market over the past decade, some investors might even respond by converting as many of their investments to cash as they can and putting all future investments in their sock drawer. Personally, I'm not ruling out any of these options. How about you?