For those people who were suitably positionedin the stock market prior to its tumble, a sleepaid shouldn't be needed. A secure cushion tocarry us through most bear markets gives us the confidenceto gracefully weather the storm. We can'tcontrol the market, but we can control our investmentportfolio. An effective strategy in a down marketis to have some short-term bonds that come dueregularly over a specified time period. How oftenthey come to maturity depends on where you are inyour life, as illustrated in the following categories:
â€¢Completely retired. You are living off yourretirement portfolio that includes bonds and/orhigh-dividend stocks. In most cases you are alreadywell positioned to weather a bear market.
â€¢Semi-retired. You are working part time andreceiving some income, but you still need to rely oncash infusions from retirement savings from time totime. This means you need a cushion should there bea downturn, like a 3-year short-term reserve becausemost bear markets don't last longer than that. Forexample, if your living expenses are $90,000 peryear, it might be reasonable to have $30,000 in shorttermbonds come due 3 times per year for 3 years,creating a sum of $270,000 in investable bonds thatare renewed regularly. Some, though, might feel betterwith a larger fall-back position. The whole idea isto sleep at night in down markets and do whatever ittakes for that to happen.
â€¢Working full time. All financial advisors recommendhaving a 6-month cash supply or equivalentin case of a personal disaster such as illness, injury,etc. Most of the time, that is a sufficient cushion forpeople who have secure jobs. If employment is lessthan dependable, however, a larger nest egg is a goodidea. This is not only practical, but allows you peaceof mind when an uncertain market coincides with aless than secure job.
Over time, bonds historically have not yielded ashigh a return as stocks. But a balance of stocks andbonds, weighted heavily toward stocks, can give youthe same return or higher than an all-stock portfolio.This is because stocks and bonds are inversely correlatedâ€”when one goes up, the other goes down andvice versa. A mix of stocks and bonds provides a bettertotal return than investing in just one or the other.The crucial factor here is the percentage of stocksto bonds. A portfolio more heavily weighted tostocks is more likely to receive a better return in themarket over time than if it were heavily weighted tobonds. Therefore, when someone doesn't have a lotof money to invest, there may be little to put in stocksafter investing in a bond cushion because resourcesare limited. Then the investor has to ask themselves:Will I sacrifice market return for sleep?
Shirley M. Mueller, MD, dissects barriers to effective monetarydecisions so they become manageable. Her unique training andexperience as a practicing physician board certified in neurologyand psychiatry, combined with her 7-year investment advisorcareer, contribute to her expertise. She welcomes questions andcomments at MyMoneyMD@aol.com.
Bear market: A prolonged period of falling prices inthe market usually brought on by the anticipation ofa declining economy.
Bull market: A prolonged period of rising prices instocks, bonds, or commodities. This is often characterizedby high trading volume.