It’s all over the news about how the stock market is now trading at all-time highs. For many investors, your portfolios should now be worth more than they were back in 2007 before the financial crisis hit. I say should for two reasons, the first being this assumes you actually stayed invested in the market. The second reason is because many of the investors that I deal with have already recouped their losses from the financial meltdown, and they did so back in 2011. You may be asking how this is possible and what sorts of tricks were used to achieve this. The truth is there are no tricks. It was done by doing what any investor should do that wants to be successful when investing in the stock market.
On order to be successful when investing you need to diversify. This is where the old saying “don’t put all of your eggs in one basket” comes into play. You need an asset allocation with a healthy mix of stocks, bonds, real estate and commodities. From there, you need to break down the asset classes further into small and large cap stocks, and domestic and international stocks. As most of you know, the reason for this is because many times, when one asset class is declining, another is rising. This offsets your losses. For help with creating portfolios, I highly recommend Paul Merriam’s book, “Live it Up Without Outliving Your Money”. It’s a short read and he creates portfolios that you can use.
Rebalaning, by some experts gets a bad rap. If you do it too often, it can backfire against you (don’t worry, I won’t go into the heavily technical reasons why). You should look to rebalance annually. I say look because you won’t always have to rebalance. You should only do so if your investments stray by 5% or more from their targets. By rebalancing, you ensure that you are always in-line with regards to your risk tolerance and you will also ensure that you buy low and sell high. The reasons for this are clear:
On the topic of risk, if you take on more much risk than you want, you could set yourself up for losing more money than you wanted it. On the flip side, if you take on too little risk, you might not have enough assets to last you through retirement.
When it comes to buying low and selling high, rebalancing forces you to sell your positions that have risen in value (sell high) and buying those that have decreased in value (buying low).
Stay the Course
It is very important to stay invested in the market at all times. Trying to time the market by buying in and selling out does not work. Recent studies show that the average investor, one that is constantly in and out of the market, earned 2.3% over the last 20 years. Had you just invested in the S&P 500 you would have earned close to 8%.
Let me say this again: you cannot time the market! No one knows what is going to happen in the market. If someone says they do, ask to see their bank account because it better have gazillions of dollars in it. Think about it, if someone says they know that the market is going to rise or fall on certain day, wouldn’t they use every cent they could get their hands on and put it in the market to make more money? I know I would.
I realize that this step is not very easy with all of the media coverage blowing issues out of proportion. But you have to do your best to ignore it. Turn the channel or go for a walk. Do anything that will get your mind off of the movement in the markets. The less you hear the noise, the less you will worry about it or be inclined to take action. Many investors that sold out of the market in 2008 never came back in and have missed this great run up in prices. Some of those that did enter back into the market sold out at the end of 2012 because of the fiscal cliff fiasco. What happened since? The market kept rising. This isn’t to say the market is going to continue to rise, but to show you that we have no clue where the market is headed. Don’t trust anyone that tells you otherwise.
If you follow these 3 steps, you will be ahead of the majority of investors out there. You may not be able to retire tomorrow if you follow these steps, but it will put you in a much better financial situation if you do. As I pointed out, some of these are easier said than done. But do your best to stick with the plan so that you can realize your financial dreams.