Stocks are on a roll. There’s no doubt about it. And if the markets continue to march higher, the media will increasingly bombard the public with news that the good old days are back. Pretty soon, everybody will get used to the relentless push to higher valuations, and greed will tempt investors to increase their risk exposure at the worst moment, possibly leading to disastrous consequences.
Hesitate and triple check your reasoning before increasing equity allocations. When valuations seem to go up every single day, it's easy to forget why fixed income is important. But remember the great recession when the S&P 500 lost half its value? We did fully recover from the lows and then some, but stock valuations coming back is never a guarantee, especially within such a short time frame. How will your finances be affected if the markets started a 50 percent decline tomorrow and didn't come back for a decade or two?
Write down any valid investment rules, and stick with them no matter what the market does. By the time a drop happens, it's too late to keep emotions from affecting your decision. You'll end up making up all sorts of seemingly logical reasons why you should lower your stock allocations. I remember how everybody was saying you need to invest heavily in stocks up until about 2008, and then the majority of the advice seemed to have turned the other way and started saying you need more fixed income. Now that stocks have recovered, the rhetoric again is shifting towards more stocks. That advice boils down to buy high, sell low and then buy high again, which almost guarantees poor investment performance.
Find other ways to reduce risk. Changing stock to bond ratios isn't the only way to lower your risk. Put some money in CDs and online savings accounts to avoid interest rate risk, consider passive index investing to avoid manager risk and try to save more money to avoid the risk of investments underperforming your predictions.
Contribute the maximum allowed amount to retirement accounts. Tax-advantaged accounts are a good idea in bull or bear markets. On average, you'll do better if you go ahead and invest right at the beginning of the year because stock prices trend higher over time, but those who are afraid of regret if markets go south the second they invest can invest periodically throughout the year. Either way, make plans to contribute the maximum amount, whether it's your 401(k), Roth, SEP or traditional IRA.
No one is ever going to know whether making certain moves will be the absolute best course of action because the future is unknown, but this tried and true advice will improve your finances in the long run.
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