The Dow Jones industrial average dropped more than 800 points last week. Meanwhile, Congress hurried to pass a $700 billion bailout plan for financial companies, which President Bush signed into law Friday. Crazy times for investors.
What to do?
For advice for everyday investors, MoneyWise turned to finance expert Eric Tyson, author of “Investing for Dummies.”
Q. Is this the bottom for the housing and stock markets?
Bottoms are only in hindsight. It is important to remember with housing that the national housing market is made up of lots of local markets, and each one is unique. At the nation level, I would guess that we are approaching a bottom, but that is not true of every market.
I would guess the decline with stocks has pretty much run its course, but markets tend to move on emotion and surprises. In terms of valuations, unless we are going to enter a severe recession and see unanticipated declines in corporate profits next year, stocks are pretty fairly valued right now. Could stocks go down from here? Yeah, they could, but it has been a pretty steep decline over a relatively short amount of time – over 25 percent in less than a year.
Q. What about that adage that just as the crowd is the most pessimistic the turnaround is in hand? Does that hold true this time?
I really think it does. When folks are up in arms and there is lots of angst and stress, that is usually a sign that you are at that point. Events can happen. You go back to 2001 and you have the terrorist attacks. That is not something you could have predicted, but something that contributed to the economic decline we were already in.
People have to remember that stock prices are ultimately driven by corporate earnings and most sectors are doing well outside of banks and some housing sectors. Things can change, but if you are a long-term investor, I certainly would not be selling now.
The two things people do in this kind of market that can be very damaging is to sell and the second is to turn off the spigot for new contributions. By the time things look better you will have missed out on the rebound, and rebounds from bear markets start off with some momentum. If you miss the bottom, you can miss a pretty significant part of the move (back up).
Q. How long of a recovery should investors brace for? How long until their 401(k)s recover?
It depends on if we are close to the bottom and if the economy, while sluggish, gets back to a reasonable level of growth next year and into the following year. These losses could be wiped out in the next 12 to 18 months. That is probably the most likely scenario. That is pretty typical.
Q. What was recovery time after 9-11?
That market bottomed in late 2002 – from an absolute top in March 2000. Most of the major market indicators, on a total return basis, had gotten back to where they had been by late 2003. That was not true of the Nasdaq, but it is not a broad market indicator.
But that bear market took longer to unfold. If the broader economy gets weak and corporate profits go down, a bear market could go on for another year and the market could go down another 15 percent.
Q. What should you do if you are near or at retirement?
You should have a somewhat balanced portfolio. If you are 100 percent in stocks, this has been very unpleasant and a lot of the damage has been done, unfortunately.
Maybe they should get back to the allocation they should have had in the beginning – like a third in bonds. Better late than never.
Q. What about if you're in your 40s?
If you had a proper asset allocation, I would stay the course.
And I made this recommendation in 2002 and 2003: This is a time to think of selling some bonds and buying some stocks. Bonds have done what (people) would hope they would do in difficult economic times, which outperform stocks. And stocks have gone down.
But it takes a lot of courage to do that.
Q. What about 20- and 30-somethings?
Those people obviously have the most time to recover from this, and should be mostly in stock-oriented portfolios. The important thing is people should continue to save money and take advantage of low prices and not let instincts get the better of them. People get discouraged near the bottom and pull the plug.