Is Now a Good Time to Start Investing in Stocks?

This is the proverbial question for which there is no simple answer.  Much depends on a prospective investor’s risk tolerance, investment horizon and personal financial situation.  However, given the current economic malaise, investors have been holding much cash on the sidelines.  Often times, when market capitulation occurs and both retail and institutional investors throw in the towel, those times end up being an optimal entry point for an investor with a long term view.

Reasons for Diving in Now:

• Market Timing Doesn’t Work:As tough as it is to hear that investors should “ride it out” after seeing 50% declines in their portfolios, the truth is, even the best investment pros can’t time the market.  Note Warren Buffet’s premature entry into the market via very large stakes in Goldman Sachs and other US companies.  In the long run, just being in the market over long periods of time has resulted in outsized returns compared to any other conventional asset class.
• Fire Sale! Stocks have undergone an  unprecedented decline.  While the outlook is bleak for the US economy, as evidenced by the comparative returns with other countries, and also, by a rallying US dollar, it’s evident that our economy is in much better shape than that of virtually EVERY country in the world.  As hard as it is to believe, take a look at this article on 2008 stock market returns by Country/ETF or take note of the bank nationalizations in Europe or Russia teetering on default of its obligations today.
• Lesser of Several Evils: With the Fed Funds Target Rate near zero, Treasurys, CDs, money markets and savings accounts are seeing their yields decrease dramatically.  To simply outpace inflation, which will surely resume following multiple massive bailout bills, investors cannot afford to invest at 2%.  Stocks (perhaps mixed with commodities, but the are somewhat reliant upon each other) are the only feasible way for many investors to realize a real return greater than inflation.  To do otherwise, you’re losing money to inflation.  Unfortunately, you’re forced to selectively enter the market to keep pace with future inflation.

The Case for Buying:  Investors with a Time Horizon of 5 years or more are Best Served in Dollar Cost Averaging into This Market.  There are still Stocks Breaking 52-Week Highs and High Yield Stocks providing a dividend buffer.

Reasons for Avoiding Stocks until the Dust Settles:

• Today, GM came back asking for a handout yet again, while promising close to 50,000 layoffs while bank shares lost double digits.  Clearly, the Fed and the Treasury are throwing everything at this crisis and hoping that something sticks, but it’s possible that in the end, we must just allow the markets to clear.  Perhaps it’s time to stop trying to forestall foreclosures, stop with the bailouts and stop trying to overcome a long overdue correction.  If this the ultimate outcome, the market has a long way to go and shares could purchased at a much steeper discount.
• It’s all about Housing: This market will not return to a sustained positive trend until housing prices stabilize.  This is clearly not going to occur no matter what the government tries to do to intervene.  The mere notion of constant tinkering and investors holding cash on the sideline wondering “What’s my next stimulus opportunity?”, nobody’s going to buy until the dust settles and everyone’s on an even playing field by knowing what the actual rules are.  It’s tough to buy a new house, invest new capital, start a new business, etc. without knowing what tax changes, stimulus rebates, etc. are coming next.
• Testing New Lows:The market is teetering on November lows.  This resistance serves as a very strong philosophical indicator.  If we break down a bit more, there will be a complete selloff and investors that got in prematurely will be left holding the bag.

The Case for Avoiding Stocks:  Mere Principal Protection is of the utmost importance in this financial meltdown.  Several alternatives exist which provide for a much better risk-adjusted return.  Consider Municipal Bonds, CDs and other less volatile assets.

This isn’t a question that anyone can answer other than you.  Consider the pros, cons and how to mitigate or hedge against a precipitous decline in your investment if you do decide to get into the market now.  Some alternative investment strategies, albeit a bit more complex, to help hedge against a rapid decline include:

• Buying Put Options
• Selling Covered Call Options (See Apple example)
• Selling Credit Spread Options (See Google example)
• Shorting Treasuries via an ETF
• Sectors with Lower Correlation like Biotechs (and they’re the only game in town for buyouts right now)

Tagged as: Economy, Options, Stocks