How to start investing in a bear market?

The party in the financial markets is long over. Chatter about hot stocks and fantastic opportunities in cryptocurrencies and NFTs has been silenced to a whisper. Recession and bear market are the big buzzwords these days.

Obviously, these are not the happiest times for investors. If you’ve never put money into the market before, this may not seem like the most obvious time to start.

Still, there are benefits to investing in a bear market. With stocks dropping in value and giving up on day traders, you’re less likely to be swept away by fads because almost none of them are profitable. Instead, you can focus on the essential goal of increasing your wealth in the long run.

Most of my columns are aimed at people who already have some involvement in investing in stocks and bonds, often using mutual funds or exchange-traded funds. But this column is a little different. It is mainly written for people who are still in school, or just starting a job, or who are just ready to put money aside for the future.

It’s for people like Lucy Neal, who graduated from North Central High School in Indianapolis this month, saying in a note, “I feel like I have no idea what to do to ensure my own financial security (including though I just finished my AP Macroeconomics class!).”

In a telephone conversation, Ms. Neal said it would be helpful to have basic, reliable information on how to start investing and stick to it. So here’s a quick overview. It can be useful even if you’re an old hand at this, but it’s mainly intended for beginners. If you have other, specific questions, write them in and I’ll try to answer them.

The market decline this year shows how easy it is to lose money, even if you are careful.

Still, investing can pay off if you start early, focus on the long term and follow some simple steps, which I’ll explain.

  • Pay your bills first and save for emergencies before putting money on the line.

  • Buy stocks — and, if it suits you, bonds — with low-cost, diversified index funds that track the entire market.

  • Think of investing as a marathon, not a sprint, with a horizon of at least 10 years and preferably with a much, much longer goal in mind.

Investing is taking risks. You can minimize those risks, but there’s no way around them, especially if you’re putting money into the stock market.

So make sure you can pay your bills before taking any extra risks. After that, try to throw away enough money for an emergency.

Spend a little less, save a little more, and do it regularly. You will soon have a beautiful nest egg. Keep it in a safe place.

For short-term savings, a bank account or money market fund makes sense because your money is safe and you can get your hands on it quickly. You can find money market funds with major companies such as Vanguard, Fidelity, T. Rowe Price, or Schwab. Interest rates are low, but rising.

For safe, longer-term savings, try I-bonds, which are issued by the Treasury Department and pay 9.62 percent interest (rate resets every six months), bank certificates of deposits, and high-yield savings accounts.

Now you are ready to invest.

I only put my own investment dollars in broadly diversified funds that hold stocks and bonds, which is what I recommend to anyone starting out. Stocks and bonds are the two main asset classes and you don’t need anything else. Funds – especially index funds that track the market – are a great, inexpensive way to buy stocks and bonds. (What do I mean by cheap? In general, you’ll pay much lower fees than a so-called actively managed fund.)

Consider this before moving on: As an investor, I wouldn’t put any money into it at all straight away in cryptocurrency, NFTs, gold or wheat, other commodities or anything else. You don’t need them in an investment portfolio and you run extra risk if you buy them.

In addition, if you invest in the entire stock market through index funds, you will be exposed to these things anyway because you own pieces of the companies that engage, trade or operate them. That includes Coinbase, a platform that enables trading of cryptocurrencies, and PayPal, which owns Venmo and encourages customers to buy crypto. If these or other companies manage to monetize crypto, great; you too. If they don’t, the losses are offset by other equity investments.

That’s what diversification means. Buy the entire market and you minimize the effect, for better or for worse, of a small portion of it.

Now, for stocks and bonds, if I had the great luxuries of youth, with decades ahead of me to make up for potential losses, I’d focus on stocks. In fact, despite the pain of the bear market, if I understood what I know now, I would invest 100 percent in stocks when I was in my teens or twenties.

However, I do not have that luxury. I’m closer to retirement than my first job, so I own quite a few bonds, which are generally more stable than stocks and keep me sleeping at night. But bonds are not what I would buy if I were 18 years old, as Ms. Neal is, because stocks yield almost double what bonds do in the long run: 12.3 percent, year on year, for stocks versus 6.3 percent for bonds, according to calculations by Vanguard of market returns from 1926 to 2021.

The bear market is on Mrs. Neal’s radar. “I continue to see the stock market at record lows,” she said in a phone call on Tuesday. “But does that mean it’s a good time to buy stocks?”

My answer was ambiguous.

Yes, it’s a good time to buy stocks if you’re really in it for the long haul. Prices are much better for buyers than they were at the start of the year because we’re in a bear market, which simply means the stock market overall is down at least 20 percent from its high. While the past doesn’t guarantee the future, the fact is that the US stock market has always recovered from declines over at least 20 years. If you plan to buy and hold stocks for 20 years or more, buy now.

But no, it might not be a good time if you’re trying to make some quick bucks. The stock market trend has been negative so far this year. You can lose money instantly. On the other hand, the market may start rising tomorrow and continue to climb upwards for a long time. I don’t think that’s going to happen, but nobody really knows.

In short, understand the risks you are taking. Don’t buy stocks unless you are willing to endure “paper losses” in the short term and keep your money in the market for a long time. And think about why you are buying stocks in the first place.

Why is investing in stocks such an effective way to make money in the long run?

The answer may not be obvious. A number of “meme stocks” like GameStop and AMC rose sharply last year, not because they were solid investments, but mostly because a lot of people wanted them to rise and keep buying. Over months and sometimes even years, this kind of herd behavior — what economist Robert J. Shiller calls “irrational exuberance” — can drive prices up and get you a nice profit.

But if you rely on the emotions of strangers to set prices for you, you can also lose a lot of money if the market falls, as it has recently.

Ms. Neal, an economics student, came up with what I think is a good answer: Stocks provide long-term returns to shareholders because the economy grows in the long run and companies in the stock market combine to make a profit. Those growing profits benefit shareholders. And that’s essentially what you are as an equity investor – a shareholder – even if you only own a small portion of a company through an index fund.

Over very long periods, that growth has been extraordinary. The stock market’s 12.3 percent annual return means that, on average, your money would have doubled in less than six years, over and over, over many decades.

Note that we are not talking about choosing certain stocks. Which companies will prosper and which will fail? Which stocks will outperform this year or next? It’s hard to know.

Likewise, no one knows where the stock market is going from day to day or from year to year. In December, the vast majority of Wall Street forecasters said the stock market would rise in 2022. oops. They’re wrong.

None of that is critical if you are investing and putting money into the entire market for the long term, regardless of the short term movements of the market. This approach is incredibly simple. You can use just one index fund to conquer the entire US stock market, or even the entire world stock market. Look for a low-cost index fund by comparing the so-called expense ratio. Look around, do your research.

Keep your investing as simple and as cheap as possible. As John C. Bogle, founder of Vanguard and creator of the first commercially available index fund, put it, “In investing, you get what you don’t pay for.”

Don’t put yourself in a situation where short-term declines in the market or in the fortunes of individual stocks can really hurt you. Instead, set yourself up with solid, diversified, low-cost index funds and you’ll be in a great position to benefit from the economy’s growth over the long term.

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