Q: I am 53 years old and have never invested in the stock market. I have inherited $150,000 from a family member, and my son is recommending that I invest this money in the market. What do you recommend?
Stock Market Newbie
Dear Stock Market Newbie,
Mr. Market’s personality is at best unpredictable and at times painfully volatile. It’s best to consider what a relationship with this fickle friend might look like before you commit your cash. I have created the following test to help potential investors understand whether their personality is a good fit with stock market investing.
1. Do you view investments in the stock market as akin to making some bets in Vegas?
If “Yes,” you will view yourself as the victim of random chance, and you should only put at risk what you can afford to lose. You’ll enjoy playing the game until your luck runs out, and at that time you’ll likely leave the casino with many of your chips on the table. Seasoned investors make over-sized profits during times when inexperienced speculators give up their dream to “hit it big” in the stock market.
2. When you were a child, how quickly did you spend your allowance?
- You saved this money up for many months to make a big purchase.
- You spent it quickly.
- It was spent before you even received it. In fact, you owed your siblings interest for lending you their money so you could buy a midweek treat from the ice cream truck.
If “B” or “C,” you have likely not developed the muscles required to delay gratification. You live in what is a called a present-time perspective, and at the first market drop you will likely say to yourself, “I’ve just lost $ (Subtract your current depressed value from the high-water mark), which means I can no longer (fill in the blank with some exciting experience you’ve been hoping to have).”
3. Do you despise all large multinational corporations (simply reference your emotional preferences and ignore any facts about your consumer habits)?
If “True,” you should avoid the stock market because by investing in the market you are in essence helping to provide financing to these wretched companies that provide goods and services at rock-bottom prices. Even if your investments perform well, you will have compromised your core values.
4. What is your investment time horizon? What is the minimum amount of time you expect to leave this money invested?
- 1 year
- 5 years
- 10 years
From 1950 – 2009, the historical one year returns of a diversified portfolio have been negative 20% of the time. The chance of a loss drops to 8% for rolling five year periods beginning in 1950 and has never been negative over 10 year periods. These are much better results than you will find in Las Vegas. (The diversified portfolio in this example used a 70% allocation to the S&P 500 and a 30% allocation to Short Term Government T-Bills)
5. Are you currently worried that America will soon become an underdeveloped country and/or all your family members are on the verge of contracting incurable diseases?
Mr. Market is manic enough. He does not need a worrying friend to assume his moods are always leaning toward despair. If you are prone to fret, consider long and hard before you invest.
6. Will your investment portfolio be guided by a coworker’s investment tips, plans from a commission-based so-called financial advisor, financial tabloid “best buys,” or companies that have cute ticker symbols (“LUV” – Southwest Airlines, “WOOF” – animal health-care provider VCA Antech)?
A friendship with Mr. Market is historically profitable but investment portfolios that have not been thoroughly examined for excessive expenses and half-baked strategies will eat away at hard-earned market returns. You also need to be aware that there are many who have a vested interest in sharing in some or all of these profits. To be safe, avoid all funds that have expenses above 1%.
The markets are not for everyone. Those who answered B, A, B, C, B, and B can feel confident about moving forward. If after taking this test, you recognize that you are emotionally unfit to personally delve into the markets, you may still have an opportunity. Some investors are able to overcome these misgivings by entrusting their investment decisions to a qualified investment advisor. But this requires a level of trust that takes time to develop and does not always come easily.
If you have a money question that is nagging at you, please submit this using our contact page. Matthew Illian attempts to respond to every question. If yours is chosen for MONEY QUESTIONS, he will give you a pseudonym and you will be informed of the date this Q&A will be published.