Attention, investors, especially younger investors. Current government policy — tight spending combined with low interest rates — has been driving the stock market up.
That positive policy is going to last for a while.
Younger savers and investors “should be 100 percent in stock owning mutual funds,” says portfolio manager William Bernstein, author of The Ages of the Investor: A Critical Look at Life-cycle Investing.
Yet excessive conservatism holds many of you back.
The percentage of households younger than 35 owning mutual funds has been zig-zagging down for almost 20 years, according to data from the Investment Company Institute (ICI). Last year, only 17 percent of families were in the game — up a tad from 2011 but still too low to help Gen Y advance.
Quite likely, fewer people can afford to invest, because of flat real incomes and unemployment. But mistrust of the stock market drives individuals’ thinking, too.
Investors bailed out, after stocks dropped 50 percent from 2008 to 2009. They didn’t start to return until last year, when the market was already up 100 percent.
At this writing, it’s up 128 percent from its low. You’ve been well rewarded, if your 401(k) is substantially in stocks and you made regular (or increased) contributions over the past few years.
Thanks to the market’s hot recent performance, 39 percent of investors under 35 say they’re now more willing to take a financial risk, compared with just 31 percent when price drop was still fresh in their minds.
But that’s still pretty low, for a generation with most of its working and saving life still ahead.
It’s true that anything can happen to stock prices on any given week or month. But even if the market sags the day this column runs, I’d be backing all-stocks for younger investors early into the job of building retirement savings.
There are two ways of thinking about going 100 percent stocks.
First, young investors don’t yet have a lot of dollars in their accounts, and they love every one of them. It’s hard to accumulate, say, $20,000, on a modest salary and you might be devastated when a bear market cuts your stock funds by 50 percent.
On the other hand, a dollar loss of that size is easier to make up then you think. Regular contributions, plus a market recovery, will restore your account pretty fast.
As just one example, take the year 2008. The stock market dropped 37 percent. But small 401(k)s, worth less than $10,000 in January ‘08, rose by 40 percent that year, according to the Employee Benefit Research Institute. The surprising gain came from steady, new contributions to the accounts.
The second reason for younger savers to be (and stay) in stock funds comes from a planning concept called “life-cycle investing.”
When you’re young, you usually don’t have much investment capital. But you have plenty of “human capital” — that is, future years of earning power (probably more than $2 million worth).
Because of that long line of future paychecks, you can afford to put all your investment capital at risk.
You’d start moving money into bonds only in early middle age (say, 45-ish) when the number of your future paychecks isn’t as certain.
Your human capital has declined, but thanks to aggressive investing your investment capital will have increased. That’s what you’re going to live on when your paycheck stops.
By the way, when I talk about “being in stocks,” I always mean well-diversified stock-owning mutual funds, never individual stocks. The market in general has always recovered, but individual stocks can fall into the sewer and never crawl out. I’ve written a column citing my case against buying individual stocks.
You’re probably wondering why I went out on a limb with my positive view of stocks. You know I might be very wrong.
But here’s the two-part argument:
- The upswing in the economy continues. Foreclosures are down, construction and housing sales are up, unemployment is down, inflation is down, jobs are up, retail sales are higher, auto sales are coming back and business profits are huge (corporations cut jobs and invested in technology). Some jobs will be lost because of the “sequester” — the across-the-board federal budget cut that Congress started and couldn’t stop. It’s a black eye for our politics but isn’t expected to tip the economy back into recession. Parts of the global economy are helping, too. China is expanding again and Japan is digging out of its 20-year hole. That means more markets for our exports.
- In January, the Federal Reserve, which manages the country’s monetary affairs, promised to take “open-ended” action to keep interest rates low. It plans to spur the economy until unemployment drops to 6.5 percent. Bonds and other fixed-rate investments don’t look interesting today, says Allen Sinai, chief global economist for Decision Economics. So the money injected into the economy is primarily going – and will continue go to — into stocks, he says.
Won’t “printing money” tip us into runaway inflation?
Yes, if the economy were running full-out, Sinai says, but not now. The GDP Price Deflator (the index the Fed watches) dropped to 1.2 percent at the end of last year, down from 1.8 percent the year before. Japan has been printing money for six years and it’s struggling with falling prices, not rising ones.
None of this makes for a great economy overall. Jobs will open only slowly, incomes will still stall and the elderly will collect little or nothing on their savings. But for investors, it could be a Goldilocks year.
Even if it isn’t, younger investors should hang on to an aggressive stance. When stocks turn up, they turn suddenly and you have to be there.