By now, you’ve probably seen the headlines generated by a client note sent out by the Royal Bank of Scotland. It predicts a “cataclysmic year ahead,” and urges clients to sell everything except high-quality bonds. And if that wasn’t scary enough, the note warns: “In a crowded hall, exit doors are small.”
So what should you do? And by you, I mean those of you who aren’t getting “client” notes from banks.
Hopefully, the same the thing you are already doing (though I fear most of you are not). Keep your short-term money safe, but keep right on investing for your retirement.
Any money you might need in the short term shouldn’t be invested in anything risky. If you are putting money aside for a new car, a wedding, or a house down payment, it had better not be in a mutual fund or in company stock. If it is, than you might want to listen carefully to “sell everything” warnings. But if you are 30 and you are putting money aside for retirement, “sell everything” is just noise.
This bedrock principal – don’t put cash you’ll need within the next few years at risk – is often ignored or misunderstood by regular investors (people). And that’s the source of most sleepless nights. So let me try to help.
There’s two terms I should clarify for you. What is a risky investment? And what is short term? Probably not what you think.
Risk. First of all, “risk” is easy. There’s cash, and there’s risk. Cash means cash in an account insured by the FDIC. And it means very, very conservative bonds, like Treasury bonds backed by the U.S. government. It does not mean corporate bonds; it does not mean bond funds. It definitely does not mean mutual funds, even those that say they are devoted to “capital preservation.” If it’s not cash, it’s at risk. If it’s at risk, it can disappear very quickly. And I’d say it’s a pretty good bet that many non-cash investments will lose 10-20 percent of their value at some point in 2016, as RBS says. Heck, we’re already well on our way. That doesn’t mean there won’t be a time in 2016 when stocks are higher than they were Jan. 1. I don’t know. You don’t know. Nobody knows. That’s why it’s called risk, and why you better not have your home down payment stashed in a mutual fund right now. If you find the home of your dreams on June 13, your little pile of money may very well be down 20 percent that day. You cannot time the market. So you cannot risk money you need.
Short-term. You’ll frequently hear that over the long term, stock investments pay off. You can count on returns in the 8 percent range, long term. That’s true. Or at least it’s been true since the invention of modern capital markets. But in the stock market, long terms means loooooooong term. When I wrote Stop Getting Ripped Off, I looked at what span of time you needed in the 20th Century to guarantee positive returns.
Before I tell you, take a guess. A decade? Nope. There’s plenty of 10-year spans where an investment in the stocks that made up the Dow Jones Industrial Average lost money. For example, if you invested $10,000 in Dow Jones stocks in January 1973, your investment would have fallen to $8,719 on January 1982. (Though if you had reinvested dividends, you would have a small gain instead. On the other hand, adjusted for inflation, you’d still have a loss. Here’s a cool tool to figure that out.)
What about 15 years? Nope. Or 20? Here, you get closer, but I can still find two-decade spans during which the Dow Jones lost money (like 1929-1949). It’s only when you get up around 25 years that things turn around. And with a time horizon of 30 years, you can find gains across the 20th Century.
So, conservatively, long term means 30 years. Let that sink in.
What does this mean for you? Well, If you are 25 and putting money aside for a house you might buy when you are 35, stocks and mutual funds *still* are fraught with peril. I know dismal savings accounts aren’t a great alternative, but you should know that 10 years means short-term investing in the real world. If you want to put *some* of that savings at risk, you can do that. But you’d better pay attention. And as you get closer to needing the cash, you should start “selling everything.” And by closer, I mean by age 30, when the first thoughts of buying enter your head. By then, you should start to deliberately “sell everything.”
That is what RBS is saying to its big-deal investors about 2016 when it says “sell everything.”
On the other hand, if you are 35 and saving for retirement, don’t fret over this crisis. There will be plenty more downdrafts between now and when you need your pile of money to be in cash. And even if you are 40 or 45 or 50, you shouldn’t need much if that retirement savings for 20 or 30 years. So don’t sell everything.
Most of all, never put yourself in a position where you try to time Wall Street. You can’t do it. Never invest money you’ll need soon. And remember that “soon” comes sooner than you think. You cannot put yourself in a position where you are forced to sell in an angry market. As long as you don’t do that, you’ll be fine.