PersonalFinance: Riding out market volatility

Wed Jun 2, 2010 2:57pm EDT
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By Linda Stern

WASHINGTON (Reuters) - If you're losing sleep over the stock market, you're not alone. Volatility has gone through the roof, while prices have gone the other way.

It was the worst May in almost 40 years for U.S. stocks, and included several days of 200-plus point swings in the Dow Jones Industrial Average. One day the Dow plunged almost 1,000 points in an hour, and another day it fell more than 200 points in the opening two minutes. It's not over, either.

"Nervous investors and slowly receding uncertainty levels will keep market volatility high over the coming month," Bob Doll, chief equity strategist at investment management firm BlackRock, said on June 1, echoing the sentiments of many other market watchers.

There is an index that monitors stock market volatility. Colloquially called "the VIX," it is an index of options contracts on the Standard & Poor's 500 stock index designed to predict S&P volatility over the next 30 days. And it's high right now. After bouncing around mostly below 20 for the first four months of this year, it spiked over 40 twice in May and remains in the mid 30s. We can expect more of the same.

Conventional wisdom holds that individual investors should not do anything about volatile markets; we are just supposed to buy and hold -- and hold, and hold, say the experts. That's not entirely wrong. Individual investors do have a way of buying high and selling low, and panicking when the markets panic.

But it's not entirely the right advice, either. There are ways you can protect yourself and even capitalize on volatile periods. Here are some strategies:

-- Do some trading. I am not suggesting you time the market; that doesn't usually work well for individual investors. But if you're holding shares that would net you a tax loss if you sold them, you might as well sell and take the loss. You can rebuy the same securities after a month. If you don't want to wait that long, buy something else with the money.

It also makes sense to be more vigilant about the target prices of your holdings during volatile periods. If something you own has already exceeded your target price, you might as well sell it on an up day. Similarly, if you have a shopping list of investments you'd like to own, wait until one of those miserable sell-off days to place the buy orders. If you're simply rebalancing a mostly stable portfolio, place your buy and sell orders on days when the market is moving in your favor.   Continued...

<p>A trader holds his head as another reads a paper after markets closed in the natural gas feature pit of the New York Mercantile Exchange in New York June 6, 2008. REUTERS/Joshua Lott</p>