A couple of days ago, I read an article on Yahoo finance quoting Mad Money financial analyst Jim Cramer. Cramer is concerned that the current problems in Iraq are going to cause the stock market to drop over the next few weeks. He notes that both of the Gulf wars caused a lot of instability in the market place, and he is concerned we are heading that way again. As a result, he is suggesting that if you have investments that have been doing well this might be a good time to cash them in and take your profits, or if you have money that you were thinking about investing, you might be wise to hold off on that for a while.
Cramer may be right, but that doesn’t mean it is good investment advice
First I will say in the short-term, he may well be right. What he says makes logical sense and follows recent history. But that doesn’t mean his advice to sell is good advice.
The question here is really one of investing philosophies. Do you want to be an investor or a trader?
Traders are always jumping in and out of the market. Looking for the hot stock. Trying to predict what will happen. This is very hard to do successfully and very few people who follow this approach succeed in the long term. You hear success stories about the guy who bought Microsoft stock or Apple stock a few years ago and now sold it for thousands of dollars, but for every one of those there are a hundred stories of people that lost their shirts that do not make the news.
Investors on the other hand are looking at long-term goals. Saving for retirement, college funds, long-term wealth building. These are goals that may be 10, 20, even 40 years down the road.
When money is really made
The question is when do you really make money in the stock market?
We all are painfully aware of the rough times that we went through in 2008 and 2009. Even if you had no investments, you couldn’t help but be overwhelmed with the almost daily barrage of bad news as the market dropped further and further.
At the time, I had a not insignificant amount of money sitting in my 401K with my then employer. It seemed like every time I looked, my investments were worth even less. It was a scary time. At the bottom, the value of my retirement investments was less than half of what it had been before things went south. Many times I was sorely tempted to cash out in fear that it might drop even more.
Though it was a scary time, I held on to my principles and didn’t sell. In the years since I have made back everything “I lost” and then some.
So what is the answer to my earlier question? The only day that truly matters is the day you sell. The roller coasters in between are irrelevant.
Letting the news govern your investments
The danger with reports like this one by Jim Cramer is that it can scare investors into selling. If things go badly in Iraq the market might tank again. It did before. So I better sell now to protect myself.
But if I am an investor, it doesn’t really matter if the market drops 5,000 points this week or if even if the situation is resolved and the market goes up. All that really matters is what my investment is worth in 2025 or 2033 or 2042 or whatever the long-term date is that I need the money. Twenty years from now when I am preparing to retire, I probably won’t even remember the current Iraqi crisis.
Today the concern is instability in Iraq. Next week it will be some economic report that isn’t what analysts were hoping for. Then next month it’ll be some company that performed poorer than expected. Then it’ll be a hurricane that is affecting oil production in the Gulf. And on and on it goes. There will always be something.
A while back the folks at Motley Fool reported that going back to 1928 the Dow Jones had increased from 240 to about 14,000 at that time. Taking dividends out of the picture, that equated to about a 5% annual return. But what if over that 80+ years you missed having your money invested in just the 20 best days. By missing just 20 days over 80 years your return would only be 2.6%. That means by missing out on those 20 best days, you’d have missed out on almost half of your earnings.
Granted if you were also smart enough to miss the 20 worst days your return would be somewhat better, but that’s the point. No one knows when those good days (or bad days) will come. Nobody has a crystal ball that clear. Chances are good though if you are trying to predict when things will go up and down based on the latest news you will be wrong as often as you are right.
Keeping a long-term perspective
As I was thinking over the weekend about that article I read last week, it occurred to me that this is a great example of the dangers in watching the news too carefully when planning your investments. I have no beef with Jim Cramer. I understand that he is paid to do his best to predict where things may be headed, and in the short-term he may even be right.
But investing with a short-term focus is a guaranteed way to fail.
So am I saying you should never look at your investments until you actually need the money? No, not at all. Doing a periodic review once or twice a year just to make sure things are heading in the correct direction is a responsible way of managing your money. If you obsess though on each daily crisis that comes across the news, you will be a candidate for an ulcer at best and broke at worst.
So how should you invest?
- Think long-term. Never invest any money that you can’t leave alone for at least 5 years.
- Diversify, which is just a fancy way of saying make sure you are investing a little bit in a bunch of different things. That way any one company or part of our economy can’t bring you down. This is why I like mutual funds
- Invest in things that have a long track record. If I invest in a fund that has a track record of making money over 20 or 30 years, then I can feel confident the people managing the fund know how to weather the daily storms.
- Get help. Find a good investment adviser who is focused on teaching you how to make wise decisions more so than selling you the product that generates the highest commissions for the salesperson. A good adviser can also help calm your nerves when the next “crisis” hits.
- Get out of debt and build up an emergency fund. That way you won’t be forced to dip into your long-term investments when the storms of life hit.
The reality is successful investing is somewhat boring. Building wealth and saving for retirement is a crockpot not a microwave. If you keep that long-term focus, save money little by little, invest in things with a long proven track record, and have patience, you stand a great chance of being able to retire with dignity when that day comes.