With the stock market up almost 4.5% last month, the best January since 1997, I?m becoming more confident about the stock market and thinking of cashing out CDs and putting about $ 100,000 into stocks. Is now a good time to do that? ? Nick
If you?re thinking of investing in stocks as part of a long-term strategy that includes not just a broadly diversified portfolio of equities but bonds (and perhaps other assets as well), then now?s as good a time as any to get started. But if you?re ready to throw $ 100,000 into the stock market because you believe January?s strong performance is the start of something big, then you?re making a mistake.
Yes, I?m well aware of the ?January Barometer,? which basically says that if stocks do well the first month of the year then the market will be up over the following 11 months. But I consider the January Barometer just another example of data mining, or the dubious practice of poring over historical data in a desperate search for patterns and relationships that will predict future performance.
The investing world has long been fertile ground for all sorts of wacky forecasting models ? the Super Bowl indicator, Sports Illustrated swimsuit covers, butter production in Bangladesh, etc. ? and will continue to be, if for no other reason than computing power that can crank through masses of data.
But these indicators mostly show correlation or chance rather than causation and have little or no predictive power, which was what this study conducted by economics professors at Massey University in New Zealand found when they examined the January Barometer in the U.S. and 22 foreign stock markets.
I also don?t think you or other individual investors should view Warren Buffett?s recently publicized paean to stocks as a reason to jump into the market now.
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I have great respect for Buffett and share his upbeat view on the prospects for stocks. But it?s not as if he?s making a market timing call, as if he thought stocks were too dangerous to own before but it?s okay to load up on them now. His Berkshire Hathaway has long invested billions in wholly-owned business, as well as stocks.
But even the mighty Buffett keeps billions in Treasury bills for ready cash. And before investing in stocks, individual investors need to consider not only liquidity needs but how much they might want to insulate themselves from the market?s occasionally violent convulsions by holding bonds and cash.
All of which is to say that before you start pouring your CD stash into equities, take a little time to answer a few key questions: How much of your dough should you set aside for immediate needs or emergencies? Whatever that amount is, it should stay in short-term CDs, savings accounts or high-quality money funds.
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How long will the rest of your money remain invested? The longer that is, the more you can likely afford to invest in stocks; the shorter your investing time horizon, the more you?ll want to devote to bonds and cash.
Also ask yourself: How anxious would you get watching the value of your stock holdings occasionally decline by 20% or more? If you?d freak out, you may want to scale back the amount you?d devote to stocks.
Translating these issues into an actual portfolio is as much art as science. But you can increase your chances of ending up with a mix of stocks and bonds that reflects your needs by going to a tool like Morningstar?s Asset Allocator, which will give you an idea of how different blends might perform. And to create a stocks-bonds mix that?s appropriate for the money you?ve earmarked for retirement, check out a tool like T. Rowe Price?s Retirement Income Calculator.
Instead of asking whether now is a good time to invest in stocks, you should ask yourself what role stocks should play in your investing strategy based on your financial goals and tolerance for risk. I can guarantee you that the stock market?s performance in January ? or, for that matter, any other month ? will have absolutely no bearing on the answer.
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