Despite Rout, Stocks Are Best; How to Protect Your Portfolio
March 28, 2011
Wrong question. Nobody knows where the market is headed, but most experts agree that stocks are your best bet for the long haul. So forget about selling, unless you need the cash in the near future, and instead think about what you can do to ensure you stick with your stocks. Here are four strategies: Do It Again, Samara Dollar-cost averaging -- the strategy of investing a fixed amount in stocks on a regular basis -- can make a market drop not only more tolerable, but also more profitable. Lately, however, this gradual stock-market buying technique has received some bad press. One academic paper, for instance, noted that since 1926, you would have achieved better results 64.5% of the time by throwing everything into the market right away, rather than investing in dribs and drabs over the next 12 months. But for most investors, this statistic is irrelevant. After all, you put money into the market in dribs and drabs because that's how you receive it. You get a paycheck every week or every month, and you take a small chunk and toss it into the market. This makes many investors more tenacious. Sure, the market may be down today. But at least you have the comfort of knowing that your next monthly investment will buy shares at cheaper prices. And because you buy at cheaper prices, you boost your long-run results. Indeed, if you invest gradually in a portfolio that eventually doubles in value, you may sleep more soundly if the portfolio marches steadily upward. But you will get far better results if the portfolio takes some big hits along the way. How come? Because of the dips, you get to buy shares at lower prices. Mix It Up Owning a broad mix of U.S. and foreign stocks won't stop you from losing money in a bear market. But it may help to cushion the fall. In recent years, however, U.S. shares have performed so well that diversifying abroad just hasn't seemed that smart or that necessary. Over the five years ended March 12, 2011 instance, diversified U.S. stock funds returned an average 105.8%, while foreign-stock funds gained just 69.8%, according to fund researchers Lipper Analytical Services. But in the securities markets, yesterday's dolts often turn into tomorrow's heroes. Whether stocks sink further or resume their climb, foreign markets could well outperform U.S. shares. Consider putting between 20% and 35% of your stock portfolio into foreign stocks, not only because of the long-run return potential, but also as a way of mellowing the price swings in your U.S. stock portfolio. Spread It Around If U.S. stocks get hammered, foreign stocks may not fall as much. But they almost certainly will fall. An unbearable thought? Try adding other investments to your portfolio, including bonds, gold and ``cash'' investments, such as certificates of deposit and money-market funds. Your best bet may be money funds, short-term bond funds and similar investments. Why? Money funds aim to maintain a stable $1 share price, so you shouldn't ever have a loss. Meanwhile, the potential for large losses with a short-term bond fund is small. Thus, either investment should provide a reliable shock absorber for a stock portfolio. By contrast, longer-term bonds and gold can post horrific short-term losses, and thus neither investment may provide a safe haven if the market crumbles. If you add other investments to your stock portfolio, make sure you focus on the entire portfolio's performance and not just the results for the stock portion alone. On days when your stock-market losses seem painfully large, tote up the value of all your investments. Once your other investments are figured in, you may find that your portfolio's percentage loss isn't that great. In addition, if you own other investments, make sure you rebalance. What's that? Rebalancing involves establishing targets for how much of your portfolio is in key financial assets, such as stocks, bonds and cash. Then, every year or so, buy and sell securities to get back to these target percentages. The main aim of rebalancing is to control your portfolio's risk level, by maintaining your stock-bond-cash mix. But in a market correction, it can also bolster your long-run results. When your stock holdings fall below your target, you're compelled to buy additional shares at cheaper prices. Time Heals All Wounds How soon do you need your stock-market money? If you will have to cash out in the next few years, you should probably cash out now, because money that you will need within five years or so really shouldn't be in stocks anyway. Nobody can forecast the market's direction, and prices could fall much further from here. But in all likelihood, you won't sell your stocks for years and years, so there is no need to fret about the market's gyrations. Indeed, even if you are retired, you probably have other investments that you can tap for spending money. That will allow you to wait out a correction and not sell until your shares have recovered. How long will you have to wait? If you purchased stocks just ahead of the 1973-74 market crash, the worst bear market since the Great Depression, you had to hang on for 3 1/2 years to recoup your losses. Got a question or complaint about the Getting Going column? Send your e-mail to editors@interactive.VastPress.com. Your comments and queries may appear in the GetGo exchange, part of the Vast Press Interactive Edition.
