Stocks rise and fall, but the fundamentals stay the same

October 01, 2008|By JAY HANCOCK | JAY HANCOCK,jay.hancock@baltsun.com

When everything seems upside down, when century-old banks fall like duckpins, when Democratic congresspeople want to rescue Wall Street and Republicans don't, when even "safe" investments seem risky, there are still eternal truths investors can embrace.

This, too, shall pass.

Financial panics always end. The trick is living long enough to see it and taking care of yourself meanwhile. It took less than two years for stocks to recover from the 1987 crash. It took almost seven years for stocks to get over the collapse from the Internet bubble.

Many analysts won't be surprised to see the U.S. economy struggle for years and yesterday's stock recovery prove temporary. But problems won't last forever.

This probably isn't the Big One.

Investors love to say "it's different this time" when markets soar, persuading themselves there'll never be a downturn. But often they tell the same story when things go south, thinking that this bear market, unlike the others in the past half-century, will really send things into the toilet.

The odds are against it. It's true that policymakers face their most formidable challenge since the Great Depression. But they've learned a trick or two since then about using government to ease financial shocks - whether Congress passes a huge bailout package or not.

The Federal Reserve knows now not to raise interest rates in response to economic distress. That's what it did as the Depression was kicking in, making future economists slap their foreheads.

The long-term direction of stocks and economic growth is up.

In countries with stable governments, good legal systems and smart people, economies tend to grow and stock markets tend to rise. The United States still fits that description better than almost any other nation.

Our best assets are innovators and entrepreneurs of the kind who brought us Google and Wal-Mart. They're still here. "Green" energy investments and probably some technology nobody has heard of will lead markets back up in the next decade.

Time is on your side.

If you have it. Young and middle-age people should cheer market declines as chances to buy stocks cheaply. I'm not suggesting you plow everything into shares tomorrow. But if you can buy and hold for at least five years, and ideally 10, you should automatically put part of each paycheck into stocks as part of a diversified 401(k) or other retirement plan - no matter what the market is doing.

Even retirees probably have more time than they think. Today's average 65-year-old will live 18 more years.

Diversification is your friend.

Financial stocks are taking the worst beating, yet again underscoring the lesson about eggs and baskets. But you don't just need to be diversified across U.S. stocks. Depending on your age, you need to own at least some foreign stocks as well as U.S. bonds, including TIPS - U.S. Treasury bonds that protect against inflation.

Diversification smooths investment bumps; often when one kind of asset is plunging, others are rising. One easy way to diversify is to buy a mutual fund that varies investments according to your age, such as T. Rowe Price's Retirement Funds. The closer you are to retirement, the more the fund goes into stable bonds and less into volatile stocks.

Indexes don't go bankrupt.

Stock index funds are perfect for dumb, lazy, fearful investors - like me. All my U.S. stock holdings are in index mutual funds. Such funds outperform most "managed" mutual funds. They charge less to do it. And, best of all in this environment, they don't get seized by the government and put into conservatorship.

Your bank deposits are safe up to at least $100,000.

More banks probably will fail. But the Federal Deposit Insurance Corp. is in still in business, which is one reason there won't be another Great Depression.

Check to see whether your deposits are insured by the FDIC. If you have more than $100,000 in one bank, check the Electronic Deposit Insurance Estimator on the FDIC Web site or call 877-275-3342 to see what's covered and what's not. The National Credit Union Insurance Fund offers similar coverage for credit unions.

Stay liquid.

With credit markets freezing up, look after your own liquidity. Often, paying down debt principal is a good idea, and make sure you have cash when you need it.

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