Dave pointed me to the latest column from Ben Stein, in which he writes about market fluctuations and subprime morality. The first half of this article interests me more — it discusses a fundamental principle of investing.
I continue to get questions about whether now is a good time to invest in the stock market. The truth is: nobody knows. In his column, Stein stresses the importance of maintaining a cash reserve. When things get rough — in the stock market, in real estate investments, in everyday life — an emergency fund can help protect your investments.
Assume you have most of your money tied up in the stock market, for example. If something catastrophic happens — you need gall bladder surgery, your car is stolen, you need to bail your kid out of jail — you might be forced to liquidate some of your investments during a market dip, possibly taking a loss. But with a cash reserve you could avoid this.
Stein goes on to remind his readers that the old adage to “buy low, sell high” is always good advice:
Neither now nor any other time that I know of is the time to bail out of stocks. (When I say “stocks,” I mean broad indexes of domestic and foreign stocks, not individual stocks, which I find very dicey and hard to pick at any time.)
Indeed, I’m puzzled when I read that advisors are telling ordinary investors to approach the stock market right now with caution. What can that mean? Does it mean that when stock prices are high, you should approach stocks without caution? Does it mean that when stocks are low, you should avoid them?
As the historical record makes extremely clear…you make the best returns on stocks when they’re down. So the time to buy stocks is when everyone is warning you against them.
Only do it if you can afford the loss of liquidity and a lot of time, though. It’s entirely possible that it will take many months or even a few years for the stock market to calm down about credit jitters. But if history is any predictor, the people who buy and hold in this scary time will be well-paid for their efforts.
I’m always reluctant to give advice about the stock market. I’m a novice. But when people ask me if now is a good time to get into the market (or to get out), I can’t help but thinking this amounts to market timing. Timing the market — trying to guess when it’s hit a high or hit a low — is tempting. But nobody can do it reliably. I believe that your best bet is simply to invest when you have the money to do so. And if the market happens to be low, so much the better.
Update: Let me be clear — the market is still relatively high. There have been some wild swings over the past few months, but these are all pretty meaningless in the long-term. As a whole, the market is up for the year (and flat for the past several months). There hasn’t been a downturn yet. However, many people — including Alan Greenspan — believe the odds of an economic recession are increasing. Any attempt to guess the best time to enter the market is just that: a guess. Baddriver wrote to me via e-mail: “For long term investing by the average person, dollar cost averaging into index funds is by far the best thing to do.” I agree.
[Ben Stein: Market fluctuations and subprime morality]