Stocks for the Long Run Invest Tips

There’s a fine line between the optimist and the masochist. Individual investors may be forgiven for wondering on which side of the line they reside.

Being an optimist myself, I don’t particularly like busting other people’s bubbles — we’ve had enough of those lately. Nonetheless, for my inaugural Long Run column, I have to begin on a negative note: Investing isn’t going to be easy the next few years.”For the long haul, we’re going to be in for a period of fairly tough markets,” says Ralph Wanger, manager of the ( ACRNX) Liberty Acorn fund since 1970. “You’re going to have to have substantial skill to prevail, because you can’t wait for the markets to bail you out.”If you’re still reading — indeed, if you’re still checking out TheStreet.com and other financial news publications — then the bear market hasn’t scared you away. That’s wise, because stocks remain investors’ best bet for the long haul. However, we are in a new era, only not the one people were touting a few years ago.From August 1982 to March 2000 — the greatest bull market in history — real returns averaged 15.6% a year, according to Jeremy Siegel in his book Stocks for the Long Run . That’s more than double the historical rate of equity returns. Regression to the mean hasn’t been fun.This doesn’t mean that you can’t make money. It simply means that the rules of the game have changed — and some tried-and-true rules have returned with a vengeance. Investors who adapt to the changes will fare better than those who are still using the old playbook. The Long Run aims to help long-term investors succeed in this new era, whether the market goes up, down or sideways.In the coming weeks we’ll discuss some smart investing ideas for the long run. But this week, let’s start out by revisiting the Rules of the Game.

Know Thyself

There are plenty of investing strategies out there — buy and hold, deep value, active trading, index investing. The first real step investors should take is determining exactly what type of investor he is.”For a long-term investor, you have to know yourself,” says Michael Mach, manager of ( EHSTX) Eaton Vance Large-Cap Value . “The key is to pair your personality with a logical investing approach. If you apply it consistently, you’ll prove successful.”If you don’t mind taking on a heaping portion of risk — and don’t lose your cool during periods of extreme volatility — you can probably embrace a more risky strategy. Since most investors fall into the uncool camp (myself included), the Long Run will often focus on strategies that avoid undue risk and market-timing, favoring fundamental analysis and longer time horizons.Also, you have to be honest with yourself about how much time you will devote to tracking your investments. It’s best not to take big stakes in a few companies in the rapidly evolving biotechnology industry, for example, if you don’t plan to keep up with sector developments.

Diversify

Diversification is probably the simplest truth in all of investing — and the most often misconstrued. In the 1990s, asset allocation for a lot of people meant 100% stocks, and about 90% of those stocks were large-cap growth.Virtually all investment vehicles have their ups and downs. However, too many individual portfolios consist of holdings that all move up at the same time and back down at the same time.”Investors need diversification, and by that I mean they need to diversify away from large-cap domestic equities,” says Louis Stanasolovich, founder and chief executive of Legend Financial Advisors in Pittsburgh. “Buying three Fidelity funds, two Janus funds, American Funds Growth Fund of America and an S&P 500 index fund is not diversification.”To achieve real diversification, investors need to build portfolios using investments with lower correlations to one another. For example, for your equity holdings, consider paring back your large-cap weighting and boosting exposure to emerging markets, international stocks, smaller-cap stocks and real estate investment trusts. (Using quantitative models, Stanasolovich has designed a well-diversified, “lower volatility portfolio” that returned 22.3% in 2000, a negative 2.2% in 2001 and negative 4.25% in 2002. In a forthcoming Long Run we’ll discuss diversification with him at greater length.)

Reinventing Do-It-Yourself Investing

One of the supposed hallmarks of the bull run of the 1990s was the rise of the do-it-yourself investor. The collapse of the stock-market bubble has led some pundits to declare the do-it-yourself movement dead.This is rich irony. One of the primary reasons why investors got so over their heads the past few years is that the notion of “do-it-yourself investing” was cast aside — or at least poorly redefined. D-I-Y investing doesn’t merely mean watching business news, reading The Wall Street Journal or TheStreet.com, listening to analysts or inside tips from your brokers; it means pulling up your shirtsleeves and doing your own additional research before making decisions. Doing it yourself isn’t buying the stock that a professional or CEO just mentioned on CNBC.To redefine do-it-yourself investing, I’ll defer to the original meaning of the phrase, succinctly put by Peter Lynch in One Up on Wall Street way back in 1989. “Stop listening to professionals! … Ignore the hot tips, the recommendations of brokerage houses and the latest ‘can’t miss’ suggestion from your favorite newsletter — in favor of your own research.”This isn’t to suggest that you disavow all mutual fund managers, stock analysts, business news pundits and all other professionals. There are plenty of intelligent and trustworthy folks who can help you be a better investor — and in the Internet age, you have plenty at your disposal. It simply means “trust, but verify.” Use these resources to supplement your research, not replace it.

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