5 Lessons From the Crash -- and Recovery

It's been one year since the market hit bottom. Here's what investors can learn from that experience.

One year ago, the global economy lay flat on its back. More than a few experts thought another Great Depression was in the offing. Investors, meanwhile, were dumping stocks as fast as they could. The market had tumbled a staggering 55% from its peak on October 9, 2007 -- and much of that sickening slide had occurred since the September 2008 collapse of Lehman Brothers. It was the worst bear market since the catastrophic period from 1929 through 1932.

As we know now (but had no way of knowing then), the stock marketed bottomed on March 9, 2009. Between that date and March 8 of this year, Standard & Poor’s 500-stock index skyrocketed 68%. Many indexes -- particularly foreign ones -- did much better. And although unemployment remains uncomfortably high, the Great Recession apparently ended in the third quarter of 2009.

We will remember the financial meltdown of 2008 the rest of our lives. The question for us, as investors, is what we can learn from that near-death experience and subsequent resurrection. Here are five crucial lessons.

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Almost everyone got it wrong this time. Don’t think you’re dumb because you lost money. Precious few economists and market strategists foresaw the financial collapse. And most of those who did remain bearish -- and heavily in cash -- today. You simply can’t predict the market’s short-term moves. No one can. Usually, that doesn’t matter all that much. This time, the market’s extreme volatility made it painfully expensive to be wrong.

It’s not the economy, stupid. The stock market started to rebound while the economy was still getting worse. Poring over economic data and earnings releases to gauge where the market will head next is often about as helpful as driving with your gaze fixed on your rear-view mirror. Both will tell you where you’ve been, not where you’re going.

Buying when things look blackest is often a great strategy. However, occasionally -- as in the last bear market -- the future can appear pitch black for many agonizing months before the market hits bottom.

Diversify sensibly, then stay put. As the market plunged, individual investors yanked many billions of dollars out of stock funds. Since stocks hit bottom, individual investors have continued to unload stock funds and replace them with bond funds. That’s foolish. With bond yields already low, bonds are likely to lag stocks for years (although, of course, bonds will prevail during some periods).

Instead of investing in what has done well lately, allocate your holdings in stocks and bonds based on when you’ll need your money. Are you investing for retirement 20 years from now or for your daughter’s college tuition next fall? Your goals don’t change whether the market plunges or soars; neither should your asset allocation. Invest with your brain, not your gut.

Don’t get too cute. The mutual fund industry is forever churning out shiny new products that enrich the industry -- and no one else. You can buy exchange-traded funds that invest in every obscure corner of the market, from single countries to narrow sectors. You can buy exchange-traded notes that track the price of everything from live cattle to coffee, cotton and sugar. And you can use ETFs to make bets that will yield you two times or three times the market’s daily returns -- or that will rise when the market falls. Stay far away from these kinds of daffy products. If you want to gamble, go to Las Vegas. You’ll have a lot more fun.

Turn off the financial news. There is no smart money. The many people spouting opinions on television, on the Internet and in the print media know little more than my cat does about which way the market will head over the short term. It can be fun to watch these talking heads -- especially when they disagree. The trouble is, the more information you absorb, the more you feel the urge to do something. And usually the best course of action is to do nothing. Stick with one or two sources of information that dispense sensible long-term advice.

We’re not out of the woods. Although the economy is healthier than it was a year ago and the worst of the financial crisis is behind us, now is not the time to be complacent. The U.S. faces a massive and growing debt problem, as well as protracted high unemployment. Some European nations -- notably the PIIGS (Portugal, Ireland, Italy, Greece and Spain) -- have serious debt problems of their own. The high rollers on Wall Street are attacking Greece using, believe it or not, credit-default swaps, the same weapons they employed to deep-six Lehman Brothers and other huge financial firms in 2008. It’s incomprehensible that governments haven’t regulated these financially destructive tools out of existence.

With all these problems, don’t expect the U.S. stock market to continue going straight up. It never does. But if you can invest for the long term, look to stocks because they have always been the most profitable place to be. That hasn’t changed.

UPDATE: In past columns I’ve recommended Winslow Green Solutions (symbol WGSLX), most recently on February 2. The fund is liquidating March 31, returning cash to its shareholders. It’s closing because it’s small, with assets of $35 million, and very similar to Winslow Green Growth (WGGFX), which boasts the same manager and analysts and the same green philosophy.

Steve Goldberg is an investment adviser in the Washington, D.C., area.

Steven Goldberg
Contributing Columnist, Kiplinger.com
Steve has been writing for Kiplinger's for more than 25 years. As an associate editor and then senior associate editor, he covered mutual funds for Kiplinger's Personal Finance magazine from 1994-2006. He also authored a book, But Which Mutual Funds? In 2006 he joined with Jerry Tweddell, one of his best sources on investing, to form Tweddell Goldberg Investment Management to manage money for individual investors. Steve continues to write a regular column for Kiplinger.com and enjoys hearing investing questions from readers. You can contact Steve at 301.650.6567 or sgoldberg@kiplinger.com.