In my last post I talked about firing your financial adviser because it has been proven that financial advisers cannot and have not invested better than the educated consumer. So the question now is, where should I invest my hard-earned money with the least amount of risk? Let’s take a hard look at the situation and I will tell you what I see now and then will cover how to invest in the stock market when the time is right.
This is one of those times when there is almost no high-return way to invest money as the risk of losing is just too high. Unfortunately, no broad investment alternative (U.S. stocks, overseas stocks, real estate, commodities, bonds, etc) looks attractive at this time. That being the case, I believe the best place for your investment money is to park it for now in short term CDs or a money market offering a rate similar to a short term CD. I think the stock market is not currently a good investment. If you invest anything in the stock market, for now keep it to 15% or less of your money.
There has not been any real economic recovery to this point, although the stock market has been propped up by 600 billion dollars of printed money, so it is better to be conservative then to suffer the losses you could sustain by taking excessive risk at this time. Be patient, as good opportunities always eventually come.
If you chose to invest anything in the stock market (now or in the future), always chose no-load Index Funds.
What is an Index Fund?
An index fund is a passive type of mutual fund with a portfolio constructed to match or track the components of a market index, such as the Standard & Poor’s 500 Index (S&P 500). Index funds provide broad market exposure, very low operating expenses and low fees. Index fund returns closely track the rate of the entire market they represent.
While the most popular index funds track the S&P 500, a number of other indexes, including the Russell 2000 (small companies), the DJ Wilshire 5000 (total stock market), the MSCI EAFE (foreign stocks in Europe, Australasia, Far East) and the Lehman Aggregate Bond Index (total bond market) are widely used for index funds.
Index funds invest only in the companies that are part of the index involved and allocate their money in the same ratio that those companies represent in the overall index. An example would be an S&P 500 index fund which is a direct match of about 80% of the overall market.
Be sure to invest only in no-load index funds. No-load funds are commission free, have very low trading and other costs, and will by far provide the very best return on your investment.
How to invest in index funds:
Ask your employer’s personnel department whether your company’s 401(k) program includes index funds. Unfortunately only about half do. If your employer does not offer index funds, suggest and request that it should be option. Speak up and voice your opinion that index fund options are a choice you would take advantage of and to not offer them is a great disservice to you and the rest of their employees.
Your other choice is to move or roll over your 401(k) or IRA if you can to a company such as Vanguard or Fidelity that has all the necessary offerings.
Over the long run, this one simple type of investment has been proven to outperform all other stock market choices and it’s the only stock market investment most people should make since they are built to directly track the overall performance of the market or markets they represent and have very low operating costs. For the U.S. Stock Market, I recommend a no-load S&P 500 index fund. It’s a direct match of over 80% of the overall market and such a fund is readily available from most major fund companies.
What this means is don’t ever invest in managed mutual funds, which is what the experts are always trying to sell you. Over 80% of them fail to beat the market each year, and the ones that do change from year to year. In a study of managed fund performance from 1993 to 1998 and again from 1998 to 2003, only 2% of managed mutual funds beat the market for both 5 year periods. Their underperformance, combined with their commissions and other hidden costs, will drain your profits away.
As for investing in individual stocks, I recommend you don’t do it, because you’ll probably end up underperforming the indexes just like the pros do. To make matters worse, the truth is that the game is just too rigged against the individual investor.
Your former financial adviser (you fired him right?) would of course disagree with me, but perhaps we should listen to the advice of the two greatest investors in stock market history:
Peter Lynch- “(Most investors would) be better off in an index fund.”
Warren Buffet- “The best way to own common stocks is though an index fund.”
So, when the time is right to invest in the stock market, go with Index funds. As I have been saying here and in my market evaluations, it is time to be conservative in your investments. But, if you invest anything in the stock market, now or in the future, Index Funds are the best bet.
See also: The ETF Scam: Beware of Misleading Financial Advice