How Understanding the Investment Climate Equals Stock Market Success

Submitted by Emma Davis of Investment Contrarians as part of our contributors program.

By George Leong

If you invested all of your money in the stock market, you would be exposed to extraordinary risk of a market retrenchment.

Of course, you could also make a lot of money, especially with how well things are going in the current bullish stock market that continues to somewhat defy gravity.

Yet this is also the time you need to take some extra precaution and think about where you are at and what your end goal is in the stock market.

You don’t want to risk your entire investing capital on the stock market, in spite of any temptation to do so. This is when you have to fight against the greed that might be in you?the greed that’s in most of us?and it won’t be easy.

Remember what happened after each of the multiyear peaks in the stock market over the past decades, when the stocks retrenched. I’m not saying the stock market is at a peak. In fact, the bulls look like they are in full control and heading higher on the chart.

You just need to be on top of things, and don’t let greed ravage your sensibility toward the stock market.

Chasing dreams is one thing, but being prudent is another.

I’m not going to say you should run for the exit, but you need to be aware of where your capital is being invested and understand the associated risk factors.

The reality is that a sound investment strategy means understanding asset allocation and diversification to increase the risk and return of your portfolio.

By asset allocation, I refer to the asset mix of your portfolio allocated to the three major asset classes: cash, fixed income, and equities. As I said, if you have excess equities, you open yourself up to downside risk. If you are too much in cash, you will have missed out on some great gains over the past few years. You need to monitor the investment climate and periodically rebalance your portfolio to adapt to the ever-changing market.

For instance, with the Dow and S&P 500 at record highs, you really should think about absorbing some profits. For instance, say you are up 100% on a stock. In this case, why not take the profits on half of your position and let the remaining half ride as free money.

You should also consider some put options as a hedge against weakness in the stock market.

The problem is that with bonds yielding so little, it’s hard to want to be invested in bonds.

I would also be hesitant, given the insignificant returns in the bond market.

An alternative that we have been seeing in the market is the shifting of capital to some of the dividend-paying cyclical and consumer staples stocks.

I’m talking about General Electric Company (NYSE/GE), Johnson & Johnson (NYSE/JNJ), and The Procter & Gamble Company (NYSE/PG). All three companies are solid with sound fundamentals, excellent leadership, and long-term durability. For those seeking some income, they also pay out a dividend yield in excess of three percent.

This Article How Understanding the Investment Climate Equals Stock Market Success was originally published at Investment Contrarians