What We Learned from the Financial Crisis

"Those who cannot remember the past are doomed to repeat it." ~ George Santayana

The financial crisis of 2008 to 2009 has helped us clarify our thinking on our retirement investments. Here are the conclusions or changes we have made:

Keep short term fund needs in investments with certain returns. We were fortunate to have 3 - 4 years of living expenses in CDs, bonds and money market funds. The CD and bond yielded between 3 and 5%, while money market rates were much lower. Going forward, we plan to sell our stock investments to always keep 3-5 years of funds in fixed income investments with more certain returns.

We will also apply this concept to our daughter's college savings. About five years before she needs the funds, we will convert from equity investments to short term CDs.

Accept variability of short term returns with long term investments. A common investment mistake was to expect the 7-8% long term returns of the stock market for each and every year. As we learned, in the short term, there can be significant negative returns even with a positive long term average return. However, it is important not to sell long term investments just because the market is down in the short term.

Other than selling enough stock to pay off our mortgage, we have stayed invested in equities at close to the same level as before the market crash. In addition, we have kept our daughter's college 529 fund invested in stock mutual funds.

Be wary when an asset class yields big short term profits. When everyone claims to be making money, the peak for that asset class is likely getting close. This phenomena happened in both the tech stock bubble and the housing bubble. When it seemed everybody and anybody were making money in these investments, the market soon peaked and then crashed.

As a rule for the future, we will take profits if as the proportion of a specific equity or asset class increases significantly in a short period. In 2008, I sold some of my company stock near its 2007 high. My father-in-law took profits in his energy investments as they rocketed and became a larger proportion of their portfolio.

Now that the market has recovered and reached the levels of a year ago, I'm going to remember these lessons from the past year, especially if the stock market continues rallying into 2010.

For more on The Practice of Personal Finance, check back every Wednesday for a new segment.

This is not financial or investing advice. Please consult a professional advisor.

Copyright © 2009 Achievement Catalyst, LLC