October 07, 2008

The Buy High, Sell Low Theory of Investing

I MUST SAY I was flabbergasted when I heard that Jim Cramer, the excitable host of "Mad Money" on CNBC, said on television that average investors ought take out money they'll need for the next FIVE years from the stock market. It was not so much that this advice was not sensible -- more on that in a bit -- but that Mr Cramer delivered the advice a day late and a dollar short.

Now, I fully appreciate that hindsight is 20-20. But one must ask: why did Mr Cramer not suggest this course of action when the market was going up? That way, the average investor could have actually capitalized on his gains back when the market was in full swing. What the hell good does selling now do? Oh, sure, it COULD end up saving people a lot of money if the market completely goes in the sewer and we're all left fighting for Government food rations. But since the danger of that actually happening is quite low, and it is far more likely that stocks will eventually recover, it is more likely that people will commit the cardinal sin of buying high and selling low -- and when capital disappears for good, you're out of luck.

It is important to note that Mr Cramer did advise people continue contributing to their retirement funds, and that long-term investments aren't subject to his argument. But if people really needed the money, they ought not have invested it in the stock market in the first place. There are safer places to put money that one might actually need -- bank CDs, or government bonds, or really really conservative mutual funds, or what not, rather than throwing it all into shares of PimentoLoaf.com.

Now, I don't know about you, but being a young person, I do not have five years' worth of cash anywhere, much less five years of cash now in the stock market. But on the other hand, I don't need five years of cash. I am single, have no children, don't have any college expenses to pay, don't have any major purchases upcoming, don't have any major medical bills and don't have any desire to buy a '57 Chevy or a sailboat. That's not to say I have no cash at all -- I do have a bit stashed away in an emergency fund -- but it would not last me forever if the unthinkable were to happen. At this point in my life, that's a risk I think I should take.

And if the worst does come to pass, I'll have learned a valuable lesson. But for now, I don't see any reason to sell low when I bought high, and I don't see any reason to panic. If you're panicking at the thought of loss, then don't invest, because you'll always get whipsawed when things turn sour, only to buy in again when things are sweet.

This financial crisis has taught me a few valuable lessons, though. One, if it seems like there's real froth in the market, it's better to book a gain than hold out hope for a really spectacular gain -- unless tax consequences or other considerations make selling a bad proposition. Two, don't panic -- no matter what -- because panic will send one down the road to oblivion. And third, cash is king. We now know cash will always be king. I just wish I had a lot of capital at the ready to jump when I think the time is right. When that might be, I can't say -- my crystal ball is broken, just like everyone else's, but I've learned my lesson. The next time we have some sort of stupid financial disaster, I'll be ready to strike. This time around, though -- well, God help us all.

IMPORTANT DISCLAIMER: Mr Kepple is not a financial planner, adviser or specialist, and does not even hold a degree in finance. Not only that, his crystal ball is broken. For that matter, Mr Kepple's last big financial win happened back in 2005, when he told everyone in the office to buy gasoline before the prices went up due to Hurricane Katrina. As such, realize that investing involves risk and that you may lose money -- we ain't just whistling Dixie -- and you should talk anything over with a financial planner before you invest, as opposed to acting on the opinion of some blog.

Posted by Benjamin Kepple at October 7, 2008 09:10 PM | TrackBack
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