Market turmoil causes investors to question their own judgment and seek different approaches, but the only thing investors really need to do is follow some fundamental principles. Consider the following:
Invest in securities and use strategies you can easily understand and that have withstood the test of time. The subprime mortgage crisis and the collapse of Enron are examples of strategies that failed because some very smart people couldn’t control their complex schemes. Be sure you understand your investments, including risks, fees, and other costs.
Make sure you’re well diversified globally. The U.S. isn’t the only market in the world, and every day we become more dependent on a global economy.
Use mutual funds and exchange-traded funds. Unless you have at least $500,000 to invest and the time and expertise to monitor individual securities closely, you’ll be better off with well-chosen mutual funds or exchange-traded funds (ETFs). The value of an individual stock or bond can go to zero, but a mutual fund is usually so diversified that losses are temporary. To reduce risk, limit any single stock or bond to no more than 10 percent of the portfolio. Be conscious of too much overlap in individual securities or in styles of funds in your portfolio. Your advisor or online tools can help you analyze the portfolio.
The 10-percent rule especially applies to employer stock. High concentration in employer stock is one of the most common mistakes made by 401(k) participants. Be aware of how much company stock you hold in all your various portfolios. With your employment and potential retirement benefits already aligned with the fortunes of your company, limiting personal exposure in your company’s stock is best.
Keep costs in mind. High costs are magnified when returns are low. Self-directed investors can minimize costs by using index funds and ETFs. If you need or want an advisor, don’t be afraid to ask how the advisor is compensated and about the expenses of the products used.