Should you invest in the stock market now? The stock market is at an all time high and most stocks seem too expensive. This is a conundrum to new and experienced investors alike. Nobody wants to buy stock if it’s going to crash 30% in 6 months, right? On the other hand, the stock market might continue to go up for the next few years. I don’t want to miss out on that gain. If you look around on the internet, you’ll see articles as far back as 2011 telling investors to pull out of the stock market. The S&P 500 index has doubled from that time and we’d be a lot poorer if we followed that advice.
Personally, I’m nervous about the stock market. It has been on a tear for many years now and we are due for a correction. Like an earthquake, a stock market crash will happen. It’s just a matter of time and magnitude. In times like these, we need to look at the fundamentals and see if investing is the right move for each of us. After that, we’ll go over a few scenarios.
Will you need the money?
This is rule #1. If you will need to money in the next 5 years, don’t invest it in the stock market. Set that money aside in a safe and easily accessible account before you even think about investing in the stock market. If the stock market drops and you need the money, you’d be forced to sell at the worst time. On the other hand, if you can wait it out, your investment will most likely recover in 5 years. This is a particularly good strategy for index funds. Individual companies might not come back, but the whole market should do fine in the long run.
Will it impact your overall strategy?
You have an investment strategy, right? If you don’t know what I’m talking about, then read up on asset allocation first. You need to figure out how much volatility you can handle. A lot of investors sell when the stock market drops and that’s exactly the wrong reaction. You need to buy more when stocks go on sale. Once you figure out your target asset allocation, you can use that as a guideline and stick with it through thick and thin. If buying more stocks will screw up your target asset allocation, then you probably shouldn’t do it.
Where did the money come from?
Where did you get this money to invest? Was it invested in the stock market before? If so, then it’s probably best to put it back in. For example, our dividend income is generated from the stock market. We’re not using it yet so it’s best to reinvest this income. This is particularly important for someone who received a lump sum from their pension. They will be very nervous about investing, but it was already invested before, so the money really should goes back to being invested.
Young investors just starting out
This one is a no brainer. If you are a young investor and just starting out, then invest as much as you can. At that point, your saving rate is much more important than the rate of return. Young investors also have time on their side. Even if the stock market crashes, you will have plenty of time to recover. In fact, young investors should hope for a big crash. That’s the time to buy and it benefits them the most. Just keep investing if you’re in your 20s and 30s.
I almost forgot. Young investors need to have an emergency fund stash first. This can be 1-3 months of your living expenses in case you need to fix the car or something like that. Don’t put everything in the stock market. Also, pay off those high interest debts before you invest. You can’t beat the credit card interest rate with stock market investing.
Experienced investors getting nervous about the stock market
This is us. We’re in our 40s and we have over a million dollars invested in the stock market. Most of this is in low cost index funds. A portion of it is in our dividend portfolio to generate usable passive income. In this situation, I need to review my risk tolerance and target asset allocation.
Our target asset allocation for bonds is 20%, but it’s at 17% now. We need to rebalance and bring the bond allocation back to target. Here is our target asset allocation.
Once we’re back to our target asset allocation, then we will keep investing like this.
- Dividend income – Reinvest in dividend stocks.
- Automated investing – 401k. Hands off here. Automated investing has been working very well for us and we’ll just leave it alone. We’ll continue to max out our 401k every year until we can’t anymore.
- Extra savings – This is the extra savings we have after automated investing and paying the bills. The amount is actually very little relative to our net worth. Last year, we saved about $11,000. This year I’ll probably invest some in dividend stocks and add to our cash reserves.
- Other passive income – Reinvest back into that asset class.
Investing at this point should be relatively easy for people in our position. Most of our net worth is invested and we just need to stick to the plan. The main thing we need to do is to keep investing and rebalance our portfolio once per year. We still have plenty of time before we need to draw down a significant portion of our investment.
Keeping to the #1 rule, we are investing the money that we don’t need in the next 5 years. Mrs. RB40 plans to retire by 2020 and we have enough cash cushion for the first 2 years. We will increase our cash target allocation to 3 or 4% once she gets closer to her retirement date.
Recently retired reader
I am a 60-year old recently-retired, high-school teacher. I am receiving a pension, which has no COLA (cost of living adjustment). I opted to withdraw my contributions with 4% interest & now have a lump sum to invest. It was just deposited into a Vanguard money market account, so that I can easily & quickly buy into my 2025 Target fund (where I have a balance equal to about 10% of my lump sum). I am nervous about moving all of it at once, especially with the unknowns with our president. My plan for this money is to hedge increased future costs, especially medical ones.
I got more information in a follow up email and currently, her pension and her husband’s income pay for all expenses. Since there is no COLA, this investment will help cover inflation and future medical expenses. They plan to take Social Security benefit in about 10 years.
In this case, I would go ahead and invest the lump sum in the 2025 Target date fund. The money she withdrew was probably invested so I think it is fine to put it back to work. The 2025 target date fund has 65/35 stock bond mixture. The stock portion will decrease every year so there will be less volatility as they get older. It is a good idea to figure out their target asset allocation and see if the 2025 target date fund has the right mixture.
From what I understand, they will continue to add to their investment in the next 10 years and won’t need to withdraw. That’s plenty of time for the stock market to recover even if we see a crash in the next year or two. I think she should go ahead and put it in the 2025 Target fund and don’t worry about it. If she needs to use some of the money, then she should keep that portion in cash.
Do you have any advice for our recently retired reader?
70s and drawing down
Mrs. RB40’s father is in his early 70s and I haven’t seen his investment account in a few years. I really should check and see what he has in his portfolio.
Right now, he’s busy with his rental home in California, and working on solving a tenant problem. They haven’t paid rent lately. Once that’s done, he’ll be in a better position to sell the place so he won’t have to deal with being a landlord anymore. At this point in his life, he should be able to relax and not worry too much about investments.
He has a pension, social security benefit, and retirement savings so his finances are very good. His portfolio should be mostly in bonds and other stable investments. The stock portion should be less than 25% of his portfolio. He should not add new money in the stock market at this point. I’ll check his accounts the next time I see him.
What is your strategy?
What about you? What’s your plan for the stock market? Are you adding new money, pulling money out, sticking to your plan, or something else? Please share your strategy and give us a little background so we can see where you are in life.
Track Your Passive Income
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