Suze Orman's Action Plan (10 page)

PLEASE NOTE:
When I refer to 401(k)s throughout this chapter, the advice is also applicable to 403(b)s and other tax-deferred accounts
.

ACTION:
Resist the temptation to stop investing in stocks. If you have time on your side—and that means at least 10 years, and preferably longer, before
you need money—you want to keep a large portion of your retirement money in stocks.

As noted above, the hardest part of retirement investing is staying focused on your long-term goal, rather than getting overwhelmed by what is happening day-to-day.

ACTION:
If you have time on your side, and by that I mean at least 10 years until you intend to tap your retirement savings, your concern should not be so much what your retirement accounts are worth today but what they might be worth in the future.

I understand the desire to shift all your money into a stable-value fund or money market fund offered in your 401(k). But that is a short-term salve that could leave you weaker in the long run. Why? Because once you move your money out of stocks, you give up any chance to make back your losses. Sure, the stable-value fund will inch along with a 3% to 4% gain each year, but chances are that’s not enough to help you reach your long-term investing goals; the return of a stable-value fund will barely keep up with the rate of inflation. If you told me your account was already large enough that simply keeping pace with inflation was all you needed,
then I would be the first to say: Move everything into the stable-value fund. But that’s not the situation most people are in; they need larger gains over time to build a big enough retirement pot to retire comfortably. Only stocks offer the potential for inflation-beating gains over the long term.

ACTION:
To be financially secure when you retire requires you to look past what is happening right now—what your account is worth at this very moment—and focus instead on the actions that will pay off for you years down the line. If you have at least 10 years or more before you intend to retire, you want to make choices today that will serve you well in 2020, 2030, and 2040. And that means continuing to invest a portion of your retirement accounts in stocks, since they offer the best chance of inflation-beating gains over the long term. Notice I said long term. There is no denying that stocks can and will be volatile over short periods. But if you are patient, history tells us that over extended periods, stocks can produce the inflation-beating gains that are the key to building retirement security.

Let’s walk through a simplified hypothetical example of how sticking with stocks can pay off. Let’s say you invested $200 in your 401(k)’s stock fund. The share price was $20, so your $200 bought 10 shares. One month later, let’s say that the share price has fallen to $10 a share. That means your $200 can buy you 20 shares.

If, however, you decided to give up on the stock market after that one month of investing and put your $200 contribution into a stable-value fund, you would still own your 10 shares and have $200 in cash in your 401(k).

On the other hand, if you decided to keep investing your $200 contribution that month into the stock fund at $10 a share, you would now have 30 shares—the 10 you bought the first month and the 20 you bought the second.

Now, for the purposes of this exercise, let’s assume that the stock fund went back up to $20 a share one month after you did this.

In the first example, where you stopped investing in the stock market, your 10 shares at $20 would now be worth $200 and you would still have $200 in the stable-value fund. So in total you would have $400 in your account. You broke even.

In the second scenario, if you kept investing, you would now have 30 shares of the stock fund in your 401(k) that is now worth $20 a share. You would now have $600 in your account—a gain of $200 over what you invested.

In the first example, you are just back to where you started. In the second, you are up 50% on your money.

I realize this is an extreme example—there is no chance your stock investments will completely rebound in one month—but I wanted to make the point clearly that the right action to take over time is invest, invest, invest. As long as you have at least 10 years until you need this money, I am telling you to try to relax and have a long-term perspective when you open your statement and the value of your account has gone down. The more it goes down, the more shares you get to buy; the more shares you buy now, the bigger the payoff when the market goes back up. Please do not stop investing now. Don’t change your strategy—just change your point of view.

ACTION:
What you are trying to do is “market timing.” In the short term, you may feel as if you are doing the right thing, but it will backfire on you over the long term. And retirement investing is all about the long term.

The big problem with market timing is that if you are out of the stock market, you run the very real risk that you will not be back in the market
when it rallies; there is no way you will ever make up for your losses if you miss those rallies.

Listen, I get where you’re coming from: It would be so great if we could sell before the markets go down and buy before the markets go back up, but it is nearly impossible to have perfect timing because there is no telling when the big rallies will come. For example, one day in an extremely wild period in October 2008, the Dow Jones Industrial Average lost nearly 700 points. Let’s say you got out of stocks that day because you had had enough. Well, two trading days later the Dow Jones Industrial Average skyrocketed more than 900 points. So you missed the rally that wiped out the losses from a few days earlier. Of course, that is a very rare and dramatic example; it’s not often we get such huge swings in the space of a few trading days. But the point is clear: If you try to time the markets, you risk missing out on rallies. That’s exactly what happened to so many investors who bailed out of stocks in late 2008 and early 2009 as the markets were suffering severe losses. But the sidelines were a costly place to seek refuge when the stock market posted a fast and furious 60% rally beginning in the spring of 2009. If you weren’t invested during that dramatic rally you lost the chance to earn back some of your bear market losses.

I know it is not fun or easy, but a long-term buy-and-hold strategy in a diversified mutual fund or
exchange-traded fund (ETF) is what works best. Here’s some evidence to consider:

Let’s say you invested $1,000 in 1950 and then had perfect market timing and managed to miss the 20 worst months between 1950 and June 2008. Your $1,000 would have grown to more than $800,000, according to Toreador Research & Trading. But it’s not as if there is some public calendar that tells us exactly when to get in and out. So let’s take a look at what happens if you missed the 20 best months for stocks during that stretch—that is, you were in cash when the market rallied. Well, your $1,000 would have grown to just $11,500. If, instead, you had invested your $1,000 and left it in the market through good and bad times, you would have ended up with more than $73,000. Sure, that’s a lot less than $800,000. But it’s also a lot more than $11,500. Granted, none of us think in terms of a 57-year time horizon, but please know that myriad studies similar to this one come to the same conclusion over shorter time spans too. Buy and hold is the sweet spot between elusive perfect market timing and tragic poor market timing.

ACTION:
Push yourself to keep the faith. But if at the end of the day you can’t function because you are so worried, then perhaps it is best for you to get out of stocks. However, you need to understand the serious trade-off you will make.

Let’s start by stripping away your emotions for a moment. My best financial advice is for you to stay invested.

Below are the 10 most recent bear markets (periods of major losses when the stock market indexes go down at least 20%) prior to 2008.

So this is not the first (or last) scary time. What’s crucial to understand is that despite all those bad times, patient investors did fine. More than fine, actually. From 1950 through 2007, the annualized
gain for the S&P 500 stock index was more than 10%. The big takeaway: There are bad times and there are good times, and history tells us that over time, the good times outweigh the bad.

So now you know my best financial advice: Stay the course. That is what I would do if it were my money. But it’s not my money. It’s
your
money. And no one will ever care about your money as much as you do. So if you know that the only way you can get through these tough times is to pull your money out of stocks and into a stable-value fund or a money market, then you need to do that. I just ask that you consider everything you read in this Action Plan. From a financial point of view, you are putting yourself at the risk of never making up the losses and not making big enough gains to beat inflation. Perhaps you can strike a compromise with yourself: How about you move a small percentage of your money out of stocks and into a stable-value fund? That will make it easier to get through the rocky times, but it will keep a portion of your retirement funds invested in stocks.

I respect the emotional component of investing—something that too many professionals dismiss. All I ask of you is to try as hard as you can not to let your emotions completely derail your long-term strategy. Compromise could be the ticket for you: By moving a portion of your money into a stable-value fund—say, no more than a third or
so—you should be able to sleep better during volatile times without derailing your chances of sleeping well in retirement too.

ACTION:
Don’t do it. If you work for a company that matches your contribution, I don’t care how much credit card debt you have or how messy your financial life may be. You cannot afford to miss out on a company match. Do you hear me?

When your employer matches a dollar of your money with a 25-cent matching contribution or gives you 50 cents for a dollar invested that is too good a deal to pass up.

ACTION:
Do it. Once you get to the point where you have maxed out your employer’s matching contribution (ask HR to help you figure out the max you need to contribute to collect the full company match), then you absolutely should stop contributing
so you have more money in your paycheck to put toward pressing goals. As I explain in “Action Plan: Credit,” reducing your credit card balances is not only smart, it is necessary. But you are to make paying off credit card debt your focus only if you have already taken care of building an eight-month emergency savings fund. An emergency savings fund must be your first priority; tackling credit card debt comes second on your to-do list.

ACTION:
If you intend to live in your home forever, then I recommend you focus on paying off the mortgage. With one big caveat: If you get a company match on your 401(k), you must keep investing enough to qualify for the maximum employer match. That is a great deal you are not to pass up. But I wholeheartedly recommend scaling back your contribution rate just to the point of the match so that you’ll have more money in your paycheck to put toward paying off your mortgage before you retire. Yes, I realize this means you will have less saved in your 401(k), but you will also need a lot less because you will no longer have a mortgage payment to deal with in retirement, and for most retirees that is the biggest income worry.