Inflation refers to a general rise in prices of goods and services. Even low inflation reduces purchasing power over time, because as prices rise, a dollar buys less. This is the primary reason people invest in stocks, or equities. Over the long term, stocks historically have been an investment choice for some to outpace inflation.
However, no one can control or predict the performance of the stock market, let alone a single equity. That’s why it’s important to diversify your portfolio across major asset classes to help you pursue optimal returns for the risk level that you’re willing to take. In addition, you’ll want to diversify within each asset class to take advantage of different styles and market sectors so strong performance in one area may be able to blunt the impact of downturns in another.
The goal is what professionals call “non-correlation.” That just means all of your investments are unlikely to move the same way at the same time. On any given day, some may be up and others may be down in value. In a well-diversified portfolio, you can realize the profit on the gains without losing too much on the losses.
Dollar Cost Averaging (1)
Another popular strategy is called “dollar cost averaging”. For example, say you decide to invest $10 every week in a mutual fund. On weeks when the price of the fund is up, your $10 may buy a few shares. On weeks when the price is down, $10 will buy you more shares. Over time that will keep your average purchase price low. That’s good because the lower your average purchase price, the more you’ll profit from any price gains.
Make It as Easy as Possible
Whenever possible you should consider setting up an automatic investment plan.
For example, if you invest in an employer-sponsored 401(k), you can set up automatic investments for each pay period. The percentage of your total pay (up to the maximum permitted) is taken out of your paycheck before any taxes and invested in the mutual funds or asset allocation strategy you choose. Your employer might even match a portion of your contribution. Not only do your savings accumulate, but the taxes on any investment gains you may realize are deferred until you retire and begin taking distributions. (2)
Be Consistent — and Smart
Consistency is the name of the game, as well as making a plan and sticking with it. Investors who change course a lot are much more likely to lose money.
Invest whatever you can afford regularly in a well-diversified portfolio and reinvest all your gains and dividends along the way. Whether you’re saving for retirement, a new home or college education, slow and steady investing can help you win the race.
1 Dollar Cost Averaging does not assure a profit or protect against loss in a declining market and involves continuous investment in securities regardless of fluctuating prices. An investor should consider his/her ability to continue investing through periods of low price levels. See the prospectus for complete details.
2 Taxable withdrawals are subject to income tax and, if made prior to age 59½, may be subject to a 10% federal income tax penalty.