Scary News Begets Strong Market

As your devoted scribe noted last week, the stock market has been rising on bad news and falling on good news.  So the shocking statement by Federal Reserve Board Chairman Bernanke that “the economic outlook remains unusually uncertain” was just what the markets needed.  The large company stock indexes rose between 3 and 4% for the week, with small company stocks rebounding over 6%.  After a very disappointing first half of the year, an unexpected recovery in stocks has almost offset those losses.  If we can add another good week, stocks will be in positive territory for the year so far.  This is a very confounding market, to say the least, but investors still luxuriate in strong gains, which is just what happened last week.

Antidotes to Low Interest Rates, But Proceed with Caution

Low interest rates have been plaguing investors particularly retirees who need income to pay their bills.  There are opportunities to earn high interest (and dividends), but you need to realize that the higher the interest, the higher the risk.  You can earn interest or dividends of over 5% on Build America Bonds (these are taxable municipal bonds), high yield bonds, preferred stocks, and some master limited partnerships.  But the danger of these securities is that you could end up losing a lot more principal on these investments than the interest or dividends they pay.  In other words, there’s no free lunch.  But you can reduce the risk of principal loss somewhat by investing in mutual funds or exchange-traded funds that invest in the aforementioned Build America Bonds, high yield bonds, preferred stocks.  Funds spread your money around among a large number of securities, so if any one or a few of them go sour, you’re investment value shouldn’t be badly impaired. 

Before you jump whole hog into higher interest investments, bear in mind that a lot of experienced investment professionals currently prefer to let their money languish in low-yield Treasury bills rather than reach for more yield.  They worry that when interest rates rise, the value of higher-interest securities will fall, perhaps significantly.  Also, if the economy does come unglued, many higher interest bonds could default.  If you are attracted to the siren song of high interest, my advice is to put only a portion of your money into these funds.    

 

Smart Money Tips

• If you’re having trouble saving, start small. Let’s get down to basics for a moment. In order to achieve financial security (assuming you didn’t marry a bundle of money and you’re not going to inherit a bundle of money) you have to save money and invest it wisely. Alas, many of us have trouble with that first step – saving. Yet I need not remind you how crucial it is and the longer you wait to begin saving at a pretty hefty level, the harder it will be for you to achieve financial security. On the other hand, it can get pretty depressing when you hear people like me say you should be saving perhaps 15% of you income, particularly if you’re having trouble saving anything at all or you’re just saving a smidgen. But if you’re in either of those boats, don’t despair. Start saving a small percentage of your income right now or if you’re already saving a small amount, increase it a bit. Saving anything, even 1% of your income, will get you on the right road. Chances are that you’ll never miss the money, particularly if you have it taken automatically out of your paycheck or your checking account. On top o that, you’ll like the feeling of saving now for a better financial future. You’ll want to do more in the future, so it’ll be just a matter of time before you’re saving a healthy portion of your income. But you have to take that first step. Do it today.

• Build a foundation in your investment portfolio. Speaking of basics, here’s another tip that will help you get rich sensibly. As you begin to build up your investments, the last thing you want to happen is to lose a good chunk of your portfolio as a result of a bad market. While diversification certainly helps protect against market adversity, building a strong foundation to your overall portfolio also buys you some insurance that will help you survive and thrive in all kinds of markets. Think of your investments as a pyramid. At the top, a small portion of your money is invested in higher risk stocks and stock mutual funds that offer the potential for high returns along with the possibility of big losses. The middle of your pyramid consists of other stock investments of varying risk levels, including small cap, mid cap, and international stocks and stock funds. You might also have some high yield bond funds in there as well. The base of your financial pyramid – the foundation – will provide support for all of your investments. You may think that a strong foundation will consist of no- or low-risk securities like municipal bonds and Treasury securities. While they certainly should play a role in your investment foundation, high quality stocks or funds that invest in high quality stocks will also provide you with investments that will serve you well over the decades. There are some top-quality stocks that have provided generations of investors with dependable returns and rising dividend income. Be sure to pay attention to your investment pyramid. Building a strong foundation will allow you to take more risk with the higher-level investments and, more importantly, help your weather any financial storms that will inevitably come your way from time to time.