For the best return on your money, nothing beats the stock market. Over time it handily trounces what you’d get from investing in bonds, money market accounts, Treasury bills and a plain old savings account.
However, as tempting as it may be to dive in and start trading, there are times when the best investing decision you can make is to sit on the sidelines and steer clear of stocks, mutual funds and other stock-like investments. Here are six of those times.
1. When you need the cash in the next three to five years
Saving money for a down payment on a house? A car? A kitchen upgrade or a new nose (to fix that deviated septum, of course)? If you plan to make any of these purchases before 2019 then it’s best to park your cash someplace safe (like a money market account, certificate of deposit or a high-yield online savings account).
While interest rates paid on these types of accounts are no great shakes, they at least offer peace of mind because you know that your money — all of it — will be there when you need it. There are no such guarantees in the stock market, especially during periods when stock market volatility (sharp price movements) puts your entire principal at risk.
If your plans for the cash are set in stone (e.g., the money is needed to cover a child’s tuition or to fund your first years of retirement), consider playing it even safer than the three-to-five-year rule. In those cases, keep money you need in the next seven to 10 years out of stocks.
If your plans are flexible (e.g., you could postpone home renovations while your stocks recover), lop off time from the rule — though anything less than three years is skating close to the line.
In the meantime, here are NerdWallet’s picks for the best online money market accounts and top high-interest savings accounts, plus advice on how to find the highest CD yields in a low-rate environment.
2. When you’re looking to make a quick buck
Taxes and transaction fees aside, investing in stocks for a short-term payoff can be a dangerous strategy. If you approach the stock market like a slot machine in Vegas, you risk waking up with a major financial hangover.
The stock market rewards those who make long-term commitments — investors who know that the odds of an even bigger payoff down the road are in favor of those who stick it out. Those who attempt to make a quick buck based on rumors, wild guesses and unfamiliar investing strategies are gambling, not investing.
3. When the dog ate your homework
You may be beyond the age when you get grounded for bringing home a bad report card. But you’re still being graded. Only this time the grades are expressed as your investing returns and it’s not just your phone privileges or weekend plans on the line — it’s your financial freedom.
When you buy stock, you are investing your hard-earned money in a company because you believe in that business’s potential for growth and that the people who run it will make smart decisions about deploying the capital provided by you and other shareholders. The more you know about the business — the industry, its business model, the management team, its competitors, what sets it apart from others in the field — the more likely you’ll ace the final exams.
4. When you’re in a hurry to get in on a hot tip
Good financial decisions rarely happen when someone’s tapping a foot and telling you to hurry up or you’ll miss out.
Most “hot tips” have already played out by the time they show up on the rumor radar (if they were ever actually “hot” to begin with). Or — as is often the case in the penny stock trading market — the tip is a head-fake and the people who stand to make money from it are standing on the opposite side of the deal/transaction. They’re hoping enough investors will take the bait and buy, sell or short shares so that they can do the opposite.
No matter where the tip comes from and the motive behind it, there’s no reason to rush in. Any investment worth making will be around for a while.
Before you act, evaluate the source of the tip (is it a resource you trust?) and ask yourself what it stands to gain if you act on the advice. If you’re just itching to do something with the tip right away, set up a watch list and track the stock to see how it plays out.
5. When you can get a guaranteed return elsewhere
There is no investment on the face of the planet that guarantees a positive return on your money with little to no risk, except one: paying off high-interest debt (specifically, credit card debt).
Let’s say you carry a $1,500 balance on a credit card at 11% interest and pay only the minimum amount due every month. That’s an awesome investment — for your credit card company. It will rake in $657 in interest on that money during the seven years and three months it takes you to pay off the balance.
Even if you get a decent return investing in stocks, the interest you’re paying on your debt will continue to seriously handicap your returns. But if you pay off the credit card ASAP, you get an automatic, guaranteed, brag-worthy 11% return on your investment. And every dollar you invest after that (all the money you save by not having to devote it to debt paydown) is upside for you.
If you don’t have the cash to pay off your credit card right away, consider transferring your high-interest debt to a lower-rate card. Here are NerdWallet’s best balance transfer and 0% interest credit cards.
6. When you’re ‘hangry’
Grocery shopping when you’re hungry is how you end up with a cart full of random (and usually unhealthy) grub. Similarly, investing while in a compromised state leads to cloudy-headed decisions and regrets down the road.
Here’s where shopping lists and investing plans come in handy: They provide a road map to follow when self-restraint, common sense and emotional control are in short supply. (Both should be composed under optimal conditions: when you’re calm, rested, fed, hydrated and free from distractions.)
An investing plan should include the reason you bought the company’s stock, your performance expectations and, perhaps most important, the conditions that would lead you to sell.
When everyone else is panicking about a sudden market dip, paralyzed by bad news, euphoric about a blowout quarterly earnings report, or buying or selling based on price movement alone, refer to your investing plan and review your “sell if” instructions. Then check under the hood of your stocks to see if there’s been a fundamental change in the underlying business (the reasons you bought the stock in the first place). If it turns out that all the hoopla is just “noise,” go make a sandwich, take a nap, practice your deep breathing exercises or do whatever it takes to remain Zen.
More on NerdWallet
Image via iStock.