How to Invest Now without Taking on Too Much Risk

No one likes to hear about the great party they weren’t invited to.

Yet that’s how many people feel after this five-year bull market.

It’s nearly tripled since hitting a low in March 2009.

Recently, many investors have begun to put money back into the market – likely after growing tired of hearing how strong the markets have been year after year.

But trying to play catch-up is dangerous. You’re not going to make up whatever portion of the bull market you missed without taking on extra risk.

[ad#Google Adsense 336×280-IA]For example, let’s say after being gun-shy for several years (no one would blame you if you were), you got back in the market a year ago.

Stocks are up more than 14%, but you still have missed out on well over 100% in gains.

If you’re trying to make that up, you’re likely investing in volatile penny stocks or options.

There’s nothing wrong with taking some of your play money and swinging for the fences, but your long-term funds shouldn’t be in risky investments aimed at doubling your money in a short period of time.

So what’s an investor to do? Fortunately, there are several ways you can still get in the market without taking on too much risk.

Know Your Limit

First, use limit prices. When you buy a stock, you can tell your broker the maximum amount you want to pay for it. If the stock is above that price, you will not get your order filled. If it’s below the price, you will buy the shares.

For example, if Microsoft (Nasdaq: MSFT) is trading at $40.50 per share, you may determine you only want to buy the stock for $40 or less. If you place a buy limit order at $40, you will only have your order filled when the stock hits or goes below $40.

Now, how would you determine that $40 is the right price to pay? There are several ways you might decide.

  • Valuation: There are many methods of valuing a stock. The most common is price-to-earnings (P/E). Some investors might only want to buy a stock with a P/E below 15. Others might be comfortable with a higher P/E, but only if it’s below the industry average.Other valuation metrics include price-to-book, price-to-sales, price-earnings-to-growth, etc.
  • Technical analysis: This is the study of stock charts. You may look at a chart and decide that a stock is a good buy when it gets down to $40, because $40 is a level of support, where the stock has typically stopped falling and then rebounded.
  • Expert recommendations: Some of you subscribe to The Oxford Club’s newsletters or trading services. When an editor makes a recommendation such as “Buy Microsoft for $40 or lower,” there’s a good reason for it. It’s usually in your best interests to follow along and only buy up to that price. Chances are the editor is taking valuation, technical analysis or other risk and reward factors into consideration.

Remember, first thing’s first, use limit prices on your orders.

Slow Your Roll

You don’t have to put all of your money to work at once, especially if you’re concerned the market is high. So if you’ve decided to enter the market, consider dividing your funds up into groups that will be invested at different times. Maybe you want to invest four times during the year. Or five times over the next two years.

Whatever you decide, it’s important to know yourself and be able to do it.

It’s easy to invest now when the market is going up and investors feel confident. Imagine if you put 25% of your funds in the market with the plan to invest another 25% in three months. By September, just as an example, let’s say the market is down 10%. Will you have the courage to buy at those levels? Many people won’t. But if you do, you’d be buying 10% lower than the first 25% you invested.

This is called dollar-cost averaging. It is a great strategy for investors to put their money to work over time. It’s also particularly effective for long-term investors who will invest regardless of how greedy or fearful they feel at the moment.

This has worked especially well for me. In early 2008, I had some money to invest.

Because the markets were in turmoil, I decided I would not put all of my cash back in at once. I vowed to invest quarterly for two years. That allowed me to get some of my money in at rock-bottom prices in late 2008 and early 2009. It was scary to invest at that time, but I figured I’m only putting a small portion in at any one time, which made it easier to handle emotionally.

I highly recommend this strategy for anyone who has missed the bull market and wants back in, but is a bit worried that it’s too late.

Get Paid to Pick Your Price

Lastly, you can sell naked put options to get the price you want for a stock. This is a strategy for more seasoned investors. But it can be very effective at keeping you out of stocks at prices that are too high, getting you into stocks at the price you want and generating some income, all at the same time.

Let’s use our Microsoft example one more time. If Microsoft is trading at $40.50, but you only want to buy it at $40 or lower, you can sell a June $40 put for $0.40. That means you will be paid $0.40 per share, or $40 per contract (option contracts are in 100 share blocks). If Microsoft never goes below $40, you don’t buy the stock but you keep the $40.

If Microsoft is below $40 at options expiration, you will be forced to buy the stock at $40 – which is what you wanted anyway. And actually, your real cost is $39.60, because you bought the stock for $40, but were paid $0.40 for the put. The risk is if the stock is way below $40, like $36, you’re still buying it at $40. So it’s usually best to sell puts on stocks that aren’t too volatile.

Walk Before You Run

Don’t feel like you need to make up all those missed profits at once. You’ll only get hurt if you do. Take your time getting back in and do it the right way. And the next time, you’ll be the one throwing the party.

— Marc Lichtenfeld

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Source: Wealthy Retirement