The Market Falls While Congress Stalls: My Plan Revisited

When the U.S and international markets experienced their first drop following the failure of U.S. investment banks, Mr. ToughMoneyLove described his tactical money moves in response.  I then described why doing nothing aboout our investment allocations was an appropriate strategy.

Yesterday’s market crash was yet a new event to consider because of both its depth and breadth.  By that I mean that every asset class we own – excluding cash equivalent investments and inflation protected securities – was hit hard.   Non-correlation of the different asset classes was somewhat visible in their respective declines but less than what I would expect in a typical market correction or crash.  Upon further examination, stocks in companies that should be virtually immune to the credit crunch which is of such concern to Secretary Paulson and friends also tanked.  This tells me that yesterday’s crash was a highly emotional one, suggesting that apart from the customary rush to gold – also driven by emotion – there was little I could have done to analyze my way out of the damage that was to occur.   (I have previously written about my reluctance to invest in gold as a long term investment strategy.)

I had already shed most of our exposure to financial stocks although we do own Bank of America stock for its dividend yield.  When I bought Bank of America it was yielding 4%.  Unlike many other financial stocks (including Citi yesterday), Bank of America has not cut its dividend.  Thus, even though its share price fell 17% yesterday, I intend to keep the stock for its dividend yield.  Indeed, at yesterday’s closing price, the dividend yield is now above 8% which makes the stock a great buy even if the stock price stagnates.  Therefore, I am considering buying more shares this week as I expect Bank of America to emerge as a winner among the large banks when the dust settles.

The market volatility index (VIX) reached record levels during the day yesterday, another sign of great emotion in the markets.   This suggests to me that while calmer days are ahead, trying to make tactical moves in the market now is what day traders and swing traders do.  I am not one of those.  Indeed, if I had made a strategic withdrawal yesterday morning and if twelve legislators had changed their votes, we would have missed a huge market surge.  That would have been a terrible mistake.  (Who knew that outraged yet uninformed voters could so paralyze politicians?  This once again proves that getting re-elected remains priority one.)

Of course, the other strategy change I could make would be to move to cash.  This is no doubt what many investors did yesterday, causing the huge momentum shift in the indexes.  Going to cash is not a good strategy for us because it will lock in our losses and necessitate a major adjustment in our long term financial goals.  I am also cognizant of studies of past bear markets.  According to those studies of market declines since World War II, stocks rose an average of 32.5% in the 12 months following the market bottom.  However, if you went to cash, attempted to time the market bottom and missed it by just a week, that return fell to 24.3%.  Waiting three months after the market turned cut gains to less than 15%.  

I am not going to try to time this market.  I don’t need to.  My wife and I will not need the money we have in the markets for at least seven years.  That is plenty of time for a market recovery.  Heck, we could have two new Administrations by then.  We already have substantial positions in cash and cash equivalents.  We have set this cash aside for two purposes:  to pay off our mortgages and to provide a cushion in retirement against having to make withdrawals in a down market.   We also have been accumulating cash in a stable value fund that I intend to use for our annual November portfolio re-balancing.

This brings me to the one change I intend to make.  We are going to accelerate our goal of paying off the mortgages.  This will provide a guaranteed 6% return on use of our cash.  It gives me something specific and strategic to do with the cash as an alternative to putting it into the market while holding my nose.  In other words, with this move I can: (a) avoid the temptation to time the market; (b)  get a decent return on the money from the mortgage payoff; (c) act in a manner that is 100% consistent with our long term financial goals; and (d) solidy real estate assets that will provide us long term shelter services, tax free.  Perfect (I think).

What are you doing different in response to yesterday?

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