Wednesday, February 6, 2008

“Worry-Free Investing” Book Review, Part 6

This is the sixth part of a review of the book “Worry-Free Investing”, by Zvi Bodie and Michael J. Clowes. This review began here.

Chapter 1 of this book begins with the sad story of John and Joan Parker who in March 2000 were planning to retire when John turned 62 at the end of 2002. Their retirement savings were in stocks and the recent big stock market gains made it look like they would have a comfortable retirement soon.

Sadly, stock prices dropped, and this couple had to plan on working longer to make enough money to retire. If only they had their money invested in safe investments, right?

What if they had put their retirement savings entirely into regular bonds and I Bonds for the past 30 years? Then the Parkers would not have participated in the long bull market that ended in the early 2000’s. As we saw back in part 4 of this review, stocks have beaten the I Bond strategy in all 30-year periods since 1926.

Had the Parkers invested in bonds, their savings would have been much lower by March 2000. Even by the end of 2002, stocks for the entire 30 years would have beaten bonds over that period. The remaining problem is that they had their hopes dashed; the uncertainty of stocks made planning difficult.

The solution to this problem comes from recognizing that money should not be in stocks if it will be needed soon, say 3 to 5 years. (See this essay for more about this approach to stock investing.) If the Parkers had begun selling stock 5 years before the planned retirement date, they would have locked in some of their big gains.

Whether the market went up or down from March 2000, steady selling starting from 1997 would have given the Parkers more certainty for their retirement. The money from the stock sales could have been put into safe I Bonds until needed.

The last part of this book review is next.

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