A financial planning division of American Express Financial Advisors Investors in record numbers have pulled out of the stock market, opting for fixed-investment vehicles and cash strategies instead. Considering the long-term market outlook and the history of stock market rebounds, why aren’t more people re-entering the market, especially now that stock prices are low? Why aren’t investors remembering the old adage “buy low, sell high?” Are investors’ re-entry fears justified? There are many factors that investors should consider in their long and short-term re-entry strategies. Despite down cycles, stocks perform The most serious risk investors currently face is falling short of their long-term financial goals. What most people don’t recognize is that despite several down cycles, stock prices have risen steadily over time. From 1926 through 2001, the S&P 500 posted a 12.6 percent average annual rate of return, far better than any other investment class. The bottom line is that being too conservative or avoiding stocks may limit your portfolio’s return. While past performance does not guarantee future results, investors who have stayed in the market, even during turbulent times, have eventually been rewarded. For example, in the five months following the attack on Pearl Harbor, which ushered in the United States’ involvement in World War II, the S&P 500 declined almost 17 percent. But by the time the war ended in 1945, the index had advanced 62 percent from its level on Dec. 7, 1941. Before moving forward in today’s economy, however, there are many questions that investors need to ask themselves, such as: What is my time horizon? How much can I afford to lose in the short term? Can I afford not to pursue growth to outpace inflation? How comfortable am I accepting possible short-term losses to eventually get long-term gains? Dollar-cost averaging One important component of a re-entry strategy and a plan to get long-term gains is dollar-cost-averaging. For as little as $50 a month, time-tested dollar-cost averaging may allow you to participate in the stock market and concentrate on long-term growth. Dollar-cost averaging is a method of buying the same dollar amount of a stock or mutual fund each month (or other time period) so the price you buy at averages out over time. This systematic approach saves you from the turmoil of moving in and out of a family of funds or trying to time stock purchases. Most importantly, dividends are always reinvested and automatically become part of your dollar-cost averaged portfolio. While dollar-cost averaging can’t prevent loss in a steadily declining market, it may prove to be very successful in making the most of market fluctuations over time. Dollar-cost averaging helps you disregard current market conditions and emphasize long-term growth. Consider your ability to continue purchases in a declining market before considering a dollar cost average program. Asset allocation, diversification If you are like many people, you may never have had a good asset allocation plan. Nearly half of all employees with 401(k) accounts have their assets in just two mutual funds, according to a recent survey by employee benefits consulting firm Hewitt Associates. Plus, because of matching programs, the average worker has 42 percent of his or her 401(k) money in company stock, well above the recommended 10 percent maximum. One simple way investors can reduce their stock market risk is through investment diversification. Choosing a portfolio with a mix of stock, bonds and cash offers more protection against market risk than a non-diversified portfolio, which is much more vulnerable if one stock suffers a significant decline. Typically, financial advisors recommend that stock investors hold at least eight stocks. If one stock falls sharply, the drop will have a limited influence on your portfolio. Also, it’s important that each of the eight stocks be in a different industry group. Finally, consider value stocks. Look for issues with reasonable price/earnings ratios, often called value stocks, that provide solid dividends. This information is provided for informational purposes only. The information is intended to be generic in nature and should not be applied or relied upon in any particular situation without the advice of your tax, legal and/or your financial advisor. The views expressed may not be suitable for every situation.
