[Part 1 of 5] Why Are Long-Term Investments Good? (From Bankrate.com)

~ Thursday, December 1, 2022 Blog Post ~

Why are long-term investments good?

Written by James Royal / Edited by Brian Beers / Reviewed by Malcolm Ethridge / Published on December 1, 2022

Long-term investments give you the opportunity to earn more than you can from short-term investments. The catch is that you have to take a long-term perspective, and not be scared out of the market because the investment has fallen or because you want to sell for a quick profit.

And by focusing on the long term — committing not to sell your investments as the market dips — you’ll be able to avoid the short-term noise that derails many investors. For example, investors in the S&P 500 who held on after the huge drop in early 2020 were likely able to ride out the short-term bumps that came along with the start of the COVID pandemic before markets turned things around and surged higher once again.

Investing for the long term also means that you don’t need to focus on the market all the time the way that short-term traders do. You can invest your money regularly on autopilot, and then spend your time on things that you really love rather than worrying about the market’s moves.

Is now a good time to buy stocks for the long term?

If you’re taking a long-term perspective on the stock market and are properly diversifying your portfolio, it’s almost always a good time to invest. That’s because the market tends to go up over time, and time in the market is more important than timing the market, as the old saying goes.

The market (as measured by the Standard & Poor’s 500 index) has risen about 10 percent per year over the long term. The longer you’re invested, the more of that return you’re likely to earn.

But that doesn’t mean you should just dump all your money into the market now. It could go up or down a lot in the short term. Instead, it’s more prudent to invest regularly, every week or every month, and keep adding money over time. You’ll take advantage of the strategy of dollar-cost averaging, helping ensure that you don’t buy at a price that’s too high.

If you’re regularly investing in your employer-sponsored 401(k) account, for example, you’re already using this strategy, adding money with each paycheck. That kind of regularity and investing discipline is valuable for long-term investing.

While any time can be good to invest for the long term, it can be especially advantageous when stocks have already fallen a lot, for example, during recessions. Lower stock prices offer an opportunity to buy stocks at a discount, potentially offering higher long-term returns. However, when stocks fall substantially many investors become too afraid to buy and take advantage.

That’s another reason it’s advantageous to invest regularly through thick and thin: You’ll be able to continue adding to your investment even when the price is down, likely scoring a bargain. But that means you need to plan ahead and already have your brokerage account open and funded.

4 Essential rules for long-term investing

Long-term investing can be your path to a secure future. But it’s important to keep these rules in mind along the way.

1) Understand the risks of your investments

In investing, to get a higher return, you generally have to take on more risk. So very safe investments such as CDs tend to have low yields, while medium-risk assets such as bonds have somewhat higher yields and high-risk stocks have still-higher returns. Investors who want to generate a higher return will usually need to take on higher risk.

While stocks as a whole have a strong record — the Standard & Poor’s 500 index has returned 10 percent over long periods — stocks are well-known for their volatility. It’s not unusual for a stock to gyrate 50 percent within a single year, either up or down. (Some of the best short-term investments are much safer.)

2) Pick a strategy you can stick with

Can you withstand a higher level of risk to get a higher return? It’s key to know your risk tolerance and whether you’ll panic when your investments fall. At all costs you want to avoid selling an investment when it’s down, if it still has the potential to rise. It can be demoralizing to sell an investment, only to watch it continue to rise even higher.

Make sure you understand your investment strategy, which will give you a better chance of sticking with it when it falls out of favor. No investment approach works 100 percent of the time, that’s why it’s key to focus on the long term and stick to your plan.

3) Know your time horizon

One way you can actually lower your risk is by committing to holding your investments longer. The longer holding period gives you more time to ride out the ups and downs of the market.

While the S&P 500 index has a great track record, those returns came over time, and over any short period, the index could be down substantially. So investors who put money into the market should be able to keep it there for at least three to five years, and the longer, the better. If you can’t do that, short-term investments such as a high-yield savings account may be a better option.

So you can use time as a huge ally in your investing. Also valuable for those who commit to invest for the long term, you don’t have to spend all your time watching your investments and fret about short-term moves. You can set up a long-term plan and then put it (mostly) on autopilot.

4) Make sure your investments are diversified

As mentioned above, no investing strategy works all of the time. That’s why it’s so important to be diversified as an investor.

Index funds are a great low-cost way to achieve diversification easily. They allow you to invest in a large number of companies that are grouped based on things like size or geography. By owning a few of these sorts of funds, you can build a diversified portfolio in no time.

It might seem exciting to put all your money in a stock or two, but a diversified portfolio will come with less risk and should still earn solid returns over the long term.

Bottom line

Investing for the long term is one of the best ways to build wealth over time. But the first step is learning to think long term, and avoiding obsessively following the market’s daily ups and downs.

If you’re looking to get started with long-term investing, see Bankrate’s review of the top online brokers for beginners. If you’re looking for an experienced professional to do the investing for you, then consider a leading robo-advisor such as Betterment or Wealthfront.

Note: Bankrate’s Brian Baker also contributed to an update of this story.

Editorial Disclaimer: All investors are advised to conduct their own independent research into investment strategies before making an investment decision. In addition, investors are advised that past investment product performance is no guarantee of future price appreciation.