Looking back, 2014 turned out to be a year of breaking records for the stock market. The Dow broke through 18,000 and the S&P 500 broke through 2,000 for the first time. Investors tend to get nervous when the market breaks into new territory as they anticipate a significant correction. So where is the best place for your money in the coming year?
Twelve months is a relatively short time horizon when it comes to investing so the short answer is ‘anything could happen’. My best guess is that the stock market will outperform bonds, CDs and money market accounts. My reasons include the following:
- The U.S. economy continues to improve and, in fact, seems to be gaining a bit of momentum.
- Corporate earnings remain strong.
- Unemployment is dropping as corporations hire to help with expansion.
- Interest rates remain low. The Federal Reserve continues to indicate that it is in no hurry to raise rates. While the economy is improving, there is still concern about the fragility of our economy.
- Inflation remains relatively low. I think it’s unlikely that inflation will become a big news story in the coming year.
- Consumers are feeling more confident regarding their personal finances. Collapsing oil prices has put billions of dollars in the pockets of consumers and by all accounts, consumers are using the newfound cash to make purchases.
While the U.S. economy has a bright outlook, other parts of the world are not faring so well. Europe, emerging markets and large economies such as Russia are facing economic headwinds that will likely last throughout the next twelve months. Even China’s economy is showing signs of slower growth. Depending on how bad their economies falter, there could be a negative impact on our own economy.
How should you invest in 2015?
Let’s review four basic rules:
Rule #1. Any cash that you anticipate that you’ll need within the next three to five years should be held in a money market account, short-term CD or short-term high quality bond or bond fund. You’ll make little, if any, return on this money but you can’t afford to have it in stocks and find you need the cash just after the stock market has dropped significantly.
Rule #2. This is a variation of rule #1 and relates specifically to retirees or those anticipating retirement within a few short years. You need to estimate your annual cash flow needs and invest a minimum of five to ten years of that total in investments as mentioned in rule #1. Same reasoning here. The S&P 500 dropped more than 50% during the bear market that began in 2008 and it took almost four years to recover. Having five to ten years (or more) in safe investments gives you a source of cash to draw from while you are waiting on the stock market to recover.
Rule #3. Build the foundation of your stock portfolio using big, blue chip, dividend-paying U.S. companies. America is still the biggest and strongest economy in the world. Our biggest companies are well managed, well-funded and have a global outreach with their products. I expect them to continue to provide conservative growth in the years ahead.
Rule #4 (optional). If you are willing to accept more risks and volatility, take a smaller portion of your stock allocation and invest in U.S. small caps, international stocks, and emerging market stocks. The easiest way to do this is by using mutual funds or Exchange Traded Funds (ETFs). Be prepared to take the ‘long view’. You may experience more turmoil before you see big returns.
At a minimum, take this moment at the beginning of 2015 to review your current investments and decide what changes, if any, you should make for the coming year. I have a saying, ‘Those who respect money attract more of it. And those who do not show respect for money find it fleeting’. It’s not necessary to be obsessed with money but you must pay attention to it.