The stock market has risen dramatically and surprisingly since early March of this year. Perhaps that should come as no surprise, since the stock market doesn't move in lockstep with the economy.
In every recession since the end of World War II, the stock market has risen in the same year that the recession ended, and continued to rise in the year after the end of the recession.
While the stock market has risen dramatically since early March of 2009, stocks have still been in loss territory during the past 12 months. Investors are understandably skittish about investing in these uncertain times. However, there are always opportunities—although no guarantees—to invest profitably and to further recoup past losses.
The way you invest always depends on when you're going to need the money. If you're going to need the money over the next year or two, stocks would be a dangerous place for your money. On the other hand, most investors won't need to tap into the majority of their savings for many years. As long as you won't need to withdraw the money within a few years, start gradually putting some cash into stocks.
Never put all or most of your money into stocks. Diversification is crucial—always has been, always will be.
Here are five areas where you can continue or start to recoup the losses you suffered during the Great Recession.
- Search for higher yields on short-term money. Many investors want safety for some of their money, but with rates as low as they are right now, they pay a big price for safety, even during a period of low inflation. For example, a three-month $100,000 U.S. Treasury bill will return a paltry $25 in interest, about $8 per month. The interest paid on money market funds and money market deposit accounts is also rock bottom. The average yield is somewhere around 0.3 percent, and dropping. Some big mutual fund companies and brokerage firms are currently paying 0.1 percent or even less on their money market funds. That's a big price to pay for safety, even during a period of low inflation.
However, comparison shopping for safe investments that pay better interest can be rewarding. For example, some banks in your community probably pay better interest on their money market deposit accounts and CDs than other banks. If you want to cast a wider net, you can shop for higher-yield CDs and other types of safe interest-paying investments in other areas of the country. The Internet can be a big help in finding better interest rates, particularly when most financial institutions are paying so little.
- Seek better yields in the bond market. If you're willing to take a little bit of risk with money that would otherwise be languishing in low-interest money market funds, CDs, and the like, you might be able to do quite a bit better. Short-term bond mutual funds invest in bonds with short maturities, typically of one to three years. The interest paid on these bonds is considerably higher than that paid on money market fund instruments. But because of the short maturities, the risk of losing principal is lower than that of longer maturity bond funds.
However, before viewing short-term bond funds as an alternative to money market funds, keep in mind that the principal value of these funds does fluctuate. If interest rates were to rise, it wouldn’t take long to lose more principal than the interest you have earned on the fund. But if you can afford a bit of risk with some of your money, short-term bond funds are worth a look.
Short-term bond funds come in two varieties: Taxable bond funds invest in corporate and, perhaps, government bonds. Tax-free bond funds invest in municipal bonds throughout the country.
If you can afford more risk, the interest paid on municipal bonds and municipal bond funds is as attractive as it has been in a while. They are well worth a look, because rates won’t stay this high forever. Keep in mind, however, that many if not most states are likely to face some serious financial shortfalls, which could be problematic for some municipal bond issues. So, stick with high-quality municipal bonds or mutual funds that invest in high quality munis.
- Consider stocks of companies that pay dividends. If you're interested in investing in stocks, but worry the stock market may start to decline after such strong gains, consider investing in financially strong companies that pay generous dividends.
Dividends aren't an ironclad way of avoiding investment losses, but companies that have a long history of paying dividends are usually stable companies that aren't overloaded with debt. In short, dividend-paying stocks are safer stocks, the kind of stocks that experienced investors prefer in uncertain times like these.
If you would like help in identifying dividend-paying stocks, refer to The Value Line Investment Survey (available in most libraries). It has a section that lists companies that pay the highest dividends. But be sure to also consider the quality of the company, particularly if it is paying an unusually high dividend. Value Line also provides rankings. Many high-dividend stocks are real estate investment trusts (REITs). You probably want to steer clear of these for now, however, since many REITs may be headed for trouble because of problems in the commercial real estate industry.
- Diversify within the U.S. stock market. Every investor needs to own at least some stocks or stock funds. Diversification is essential, however.
Just because you own several different stocks doesn't mean you're well diversified. Diversifying among stocks according to their size is also crucial. Stocks are usually categorized by size as either "large cap," (meaning large market capitalization), "mid-cap," and "small cap." At any given time, one of those three categories is leading the others. As the table below shows, however, it's very difficult to predict next year's leaders. That's why spreading your stock investments among the three size categories is so crucial.
Best-Performing Stock Category
1999 Large cap
2000 Mid cap
2001 Small cap
2002 Mid cap
2003 Small cap
2004 Small cap
2005 Mid cap
2006 Large cap
2007 Mid cap
2008 Small cap
2009 (Through August) Mid cap
- Look at overseas investment opportunities. Foreign stocks did worse than U.S. stocks in 2008, but the table has turned this year. Foreign stocks, particularly stocks of companies in emerging markets (those of developing countries, such as China and India) have been performing very well.
Many experts predict that foreign economies may recover more quickly from the worldwide recession than that of the United States. So it's prudent to move some money overseas. (And I don't mean to suggest hiding money in foreign banks. Americans who have done that are deservedly facing the wrath of the IRS.) But do invest in foreign stock mutual funds or exchange-traded funds. You might also invest in the hundreds of foreign companies whose shares trade on the U.S. stock exchanges.
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