Putting money into the market right now feels like walking onto the middle of a freeway and hoping nobody runs you down. Unlike two years ago, when everyone seemed to think that stocks were the sure road to riches, the huge losses over the past 18 months have made most people run away from the stock market for dear life. Like a siren's song, the stability of cash has enticed many investors onto the sidelines.
But there are two big problems with this on-off mentality toward stocks. First of all, even experienced investors tend to get trapped by thinking they can weave their way in and out of stocks, timing the market to prevent losses and magnify gains. More importantly, however, you have to have a ton of money in order to achieve your financial goals without taking on any risk at all.
The price of risk-free investments
Of course, if you have a ton of money -- or reasonably expect to earn enough over the course of your lifetime -- then you may be perfectly justified in getting out of the stock market entirely. Even short-term Treasury bills paying next to nothing will at least make sure you never lose any of your principal. The question, though, is how much money is enough.
To answer that question, let's make some simple assumptions. Say you're about to retire and expect to need about $50,000 per year for the rest of your life for living expenses. If you think you won't live longer than 30 years, then $1.5 million should be enough to last you the rest of your life.
Except we forgot about one thing: inflation. Even at a reasonably tame 3% rate, you'll need much more -- almost $2.4 million in total -- for your portfolio to last for 30 years.
Don't have that much? Then you need a Plan B.
Can you save enough?
Before we get to that alternative, though, let's turn back the clock a bit. Say you're in your mid-50s, with 10 years to go before retirement. In addition, say you've already done a really good job saving and have a nest egg of around $500,000. Can you get to that magic $1.5 million figure without taking any risk?
The answer is sure, of course you can -- all you have to do is save $100,000 each year. That's $100,000 after you pay taxes, living expenses, and everything else you spend money on. And once again, it doesn't take a decade's worth of inflation into account -- a decade that could see some pretty sizable price hikes.
What's that Plan B again?
Unless you're in a position to weather just about any financial storm with flying colors, you can't afford not to take risk with your investments -- and historically, some of the best payoffs from risky investments have come from stocks.
To show how you can put together a healthy portfolio of stocks that could significantly outperform ultra-safe Treasury bills over the long run, I like to focus on dividend stocks. The reason is simple: Not only do these stocks give you some great growth potential, but they also pay much higher current income than those risk-free investments many have gravitated toward. Consider some of these companies:
|
Company
|
Current Dividend Yield
|
1-Year Total Return
|
|
Quality Systems (Nasdaq: QSII )
|
2.8%
|
38.7%
|
|
Family Dollar (NYSE: FDO )
|
1.7%
|
53.6%
|
|
Huaneng Power (NYSE: HNP )
|
6%
|
7.9%
|
|
Ross Stores (Nasdaq: ROST )
|
1.3%
|
10.8%
|
|
Bristol-Myers Squibb (NYSE: BMY )
|
6.1%
|
1.1%
|
|
Strayer Education (Nasdaq: STRA )
|
1.2%
|
0.5%
|
|
McDonald's (NYSE: MCD )
|
3.8%
|
0.8%
|
Source: Yahoo! Finance.
A portfolio of these seven stocks currently pays an average yield of over 3%, well above what you'd get from risk-free investments. But on top of that, even in a horrible market, these stocks have added another 13 percentage points in capital appreciation.
Obviously, plenty of other dividend stocks lost value over the past year. But under less extraordinary circumstances, dividend-paying stocks have put together impressive long-term track records that far surpass the returns you get from risk-free investments.
Don't hide in a cave
Even if your impulse is to stay in hibernation with your money for another few months until someone sounds the all-clear on the economy, your long-term financial destiny depends on the growth potential you get with stocks. Unless you have so much money that you don't need it to grow in order to survive, you can't afford to miss out on the profits a recovery will eventually bring.
For more on putting together a winning portfolio, read about:
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