The stock market has gone absolutely crazy. I have had many people ask me over the last week or so if I am going to get out of the stock market. The answer is definitely no! Unless someone knows of a better way to build wealth long term, then I plan on staying in.
One of the statements I have heard too often lately is “I’ve lost all of my money in the market” or “I would have been better off burying my money in my backyard”. Basically, the feeling for many is that they should have never put money in the stock market. I would like to do some quick math and explain why I still believe it is the best long term strategy to building wealth.
Let’s take a look at a young, married 25 year old couple. I generally teach young couples to start saving for retirement as soon as they can in order to make compound interest work for them. The key is to be slow, steady and consistent. Let’s pretend this couple took my advice 40 years ago, they’re now 65, and went through the recent stock market decline. They had put $250 per month in mutual funds in the stock market for the last 40 years.
I will use the average rate of return for two of my mutual funds I own over the lifetime of the fund (roughly 12% at the end of July 2011.) This couple would have had 2.9 million dollars at the end of July, dropping to 2.7 million with the market decline over the last week or so. That’s right: 2.7 million dollars! If instead, they had buried the $250 per month in the backyard, they would have $120,000. That is a 2.6 million dollar difference!
To summarize, let us think about this for a minute. Would you rather have had 2.9 million dollars 2 weeks ago and lost $200,000 of it due to the market crash? Or would you rather have “played it safe” and not lost a penny of your $120,000?
My overall point here is to not buy the hype of losing all of your money if you are in the stock market. You may argue that I am using numbers over 40 years, which allows compound interest to work, so it is not fair. But that is exactly the point: the stock market is a long-term investment. It’s not something you use for a three year saving plan. Remember, slow and steady wins the race. If you keep that as your focus, you don’t have to stress out over what your investments are doing from day to day.
Matt’s note: If you’re very serious about an alternative investment you may want to consider investing in peer-to-peer loans as a way to diversify.