The economic downturn that has dominated the headlines for the past few months has severely diminished the retirement savings of hardworking Americans. Not even President Elect Obama’s promise for change has prevented investors from fleeing the stock market. Government bailout plans have failed to jump start the economy. Unemployment rates are rising and at least one major retailer has filed for bankruptcy. Despite all of the doom and gloom, I’m still anxious to invest in the stock market (once my solo 401k is open). Even though the immediate future is bleak, a long-term outlook can do wonders for surviving the economic downturn.
Time Is On My Side
As a recent graduate, I am just beginning my investment journey. This is the first economic crisis that I have experienced as a member of the working class. I keep telling myself that I have to maintain a long-term outlook and not let the current state of affairs affect my investing plan. To keep pace with my long-term investment plan I will be attempting to max out my soon to be setup solo 401k and my Roth IRA for 2008. I am looking at this economic downturn as an opportunity to buy stock at bargain basement prices. The stock market and economy will rebound, they always have.
5 Year Rule
Due to my limited exposure, I have not lost a lot of money in the stock market. For this reason it’s easy for me to recommend staying the course and even buying more stocks. I am operating under the assumption that you do not have money invested in stocks that you will need within 5 years. It’s a general rule to keep assets that you will need within 5 years in safer funds like bonds, money market accounts or savings accounts. Use this economic downturn as a learning experience to invest only funds that you won’t need for more than 5 years, which requires a long-term outlook.
Time and Risk Relationship
With all of the negative news in the financial world, it might seem like an extremely risky proposition to invest in stocks, however, when you maintain a long-term outlook on investing, the risk is completely eliminated. The graph below shows how the range of annual returns diminishes when you invest over a longer period of time.
As you can see from the graph, the longer you remain invested, the lower the chance you earn a negative annual return. 2008 will definitely fall closer to the bottom of the range for annual returns. Considering over five year periods, the annual return is very rarely negative, let alone severely negative, the stock market must rebound. This argument really only holds true when you diversify your investments (like an index fund), as you can always have negative returns with non-diversified investments.
Thinking Short-Term and Long-Term with Tax Loss Harvesting
Sometimes it is relevant to look at short-term and long-term investment objectives at the same time. An economic downturn provides a prime opportunity to sell losing investments for tax deductions that can be carried over to subsequent years to cancel out winning investments. Selling investments in a down market is a short-term action, however, if the investment has a promising long-term outlook, you can re-buy those investments after 30 days. This allows you to lock in losses for the short-term, yet regain your position for the long-term.
Even though there is nothing but negativity in the financial world, maintaining a long-term outlook towards investing will allow you to come out on top. The stock market always provides positive returns over longer periods of investing, which means the extreme losses will always be followed by extreme gains. Make sure you jump into (or hold strong) the stock market as extreme gains will surely follow this market downturn.