With thousands of investments and millions of competing strategies vying for investors’ allegiance, it can be tempting to fall back on a few simple rules of thumb. Such oft-repeated and time-proven investment axioms are valuable because they “give people a foundation to start investing” and on the way to improving long-term financial security, says Cathy Carey, director of private wealth management research. investment firm Baird (opens in new tab).
But like simple medical advice, these bromides won’t help all people in all situations. Chicken soup has many healing properties, but is not a cure for broken legs. And in many cases, following certain investment prescriptions without adjusting for your own circumstances can hurt your returns, Carey says. To help you personalize maxims and maximize your returns, consider the nuances of some oft-quoted sayings.
More than 70 years ago, the great Benjamin Graham invested (opens in new tab)Investors are recommended to contribute regularly to their investment fund so that the overall price they pay for each holding is an average of its value over several fluctuations and not the (possibly high) price on any one day.
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Research has found that those with a lump sum to invest earn higher returns, on average, by dumping it all at once over the long haul. A 2019 study by research firm Morningstar (opens in new tab) Going back to 1926, Lump-Summer beat dollar-cost-averaging over a 10-year period in more than 90% of cases.
The main exception: Investors reduce their lump sums at the start of a bear market. Dollar-cost averaging works well in up and down markets, but not as well in uptrends, which are long-range markets. And releasing the magic of compound growth as soon as possible is key. As another saying goes, returns come from time in the market, not timing the market.
Still, Christine Benz, Morningstar’s director of personal finance and retirement planning, recommends dollar-cost averaging because it helps keep people on track with minimal worry. A lump sum investment is best for those with an iron stomach and a long horizon who can forgo the possibility that they’re buying at a high price and losing money for years, she says. Furthermore, most people don’t have a lump sum to invest but instead set aside a portion of their paycheck, which is automatic dollar-cost-averaging.
Rebalancing your portfolio
The simplest but often most challenging investment adage is to buy low and sell high. Rebalancing seems like an easy way to do that. If your desired portfolio split is 60% stocks and 40% bonds, for example, when rising prices push the stock portion of your portfolio to 70%, you sell higher-priced stocks and possibly buy lower-priced bonds. Return to your preferred balance. But studies have found that such stock-to-bond rebalancing has generally reduced returns because stocks have returned fixed-income holdings over the long term, despite more risk, says William Bernstein, author of The Four Pillars of Investing. (opens in new tab).
Former Fidelity guru Peter Lynch compared rebalancing to “pulling the flowers and watering the weeds”. A more nuanced strategy can yield better results. Bernstein’s research shows regular rebalancing between stock sectors—adjusting the mix of domestic and international stocks, say, or small- and large-company stocks—generally boosts returns. And he recommends investors rebalance their preferred stock and bond allocations when their portfolios are so lopsided that they feel nervous. “The rebalancing between stocks and bonds, in the long run, lowers returns, but that’s okay because it lowers risk at the breakeven point.”
Crop Tax Deficit
In bear markets, financial advisors like to highlight what seems like an attractive silver lining: selling losers in your taxable accounts to lower your taxes. You can use losses to offset gains in other investments, cutting your capital gains bill. Remaining losses can offset up to $3,000 in ordinary income, and you can carry forward unused losses to reduce future taxes. Ideally, you’ll keep a small current stake in that corner of the market by buying an investment that’s similar (but not too similar) to the proceeds of the sale.
But beware: The federal tax code has a potential gotcha in the form of a wash-sale rule. If within 30 days before or within 30 days of the tax loss sale, you or your spouse buy a security that the IRS considers “substantially similar” to the one you sold—even if it’s in a different account—you won’t be able to. To claim the loss in that year’s tax. But, says Philip Weiss, a Maryland-based CPA and CFA, if and when you sell the new investment, the tax basis of your replacement shares will be adjusted higher by the amount of the disallowed loss, which reduces your taxable gain (or increases the loss you can claim). ).
Mike Piper, a St. Louis-based certified public accountant and author of The Oblivious Investor (opens in new tab) blog, says that tax-loss harvesting works best for organized investors who avoid wash-sale rules and who have long investment horizons: such as plans to donate or pass on replacement investments, or wait a long time for modest tax savings. mixed into something solid.
Downshift to Bond
The older you get, the less time you have for investment losses, so it’s tempting to protect what you have by shifting from volatile stocks to low-paying, stable bonds. A general rule of thumb: Your stock allocation should be 100 minus your age. The problem is that until the pandemic, Americans’ life expectancy was increasing, and longer life spans make it more likely that a bond-heavy portfolio won’t keep pace with inflation or spending. And, of course, such one-size-fits-all arithmetic doesn’t take into account personal factors like your health, pension and income prospects.
Gene Keener, a fee-only advisor based in Keller, Texas, suggests that some of his clients increase stock allocations starting around age 70. New research, she says, indicates that a V-shaped approach (decrease then increase stock allocation. Your portfolio) can increase the ability of retirees to spend the money they leave to heirs or during their lifetimes.
Experiencing a market downturn as you enter retirement or into retirement can leave a permanent dent in your nest egg, and a portfolio that leans toward fixed income can protect you from bear attacks (the last one was a rare exception). But if you have expenses covered by payments from Social Security, a pension or a “bucket” of fixed income holdings set aside to cover expenses for the next several years, adding more to your stock holdings in retirement can increase your growth and longevity. savings. Still, Kenner says, some of his clients are comfortable taking more investment volatility in their seventies—emotional truths often trump financial ones.