Six Reasons to Stick With Stocks
In an Increasingly Scary World

Fasten your seat belt. It could get rough.

Even after the vicious bear market of the past three years, stocks could still fall further. Maybe the North Korean crisis will escalate. Maybe the war with Iraq will prove horribly bloody. Maybe there will be another terrorist attack.

Faced with such possibilities, it seems crass to worry about your portfolio. But that has never stopped Wall Street. Make no mistake: In the weeks ahead, if you want a barometer of world affairs, just watch the Dow Jones Industrial Average.

What if stocks are pounded lower? No doubt some folks will panic and sell. But if your stock allocation makes sense for the long haul, I would stick with it. Here are six reasons to stand by your stocks.

Keeping Perspective: Recession? Terrorist attacks? War in the Middle East? The stock market has survived and thrived despite far more terrible events.

"People complain that things have never been worse," says Nelson Lam, an investment adviser in Lake Oswego, Ore. "But is the current situation really more risky than the 1930s or the Second World War?" In fact, investors who bought stocks during those dark days were handsomely rewarded for their courage.

Paying the Price: Stock-market bears argue that we need a lengthy market decline to wipe out the bull market's excesses. But hasn't that happened already?

The Standard & Poor's 500-stock index is back where it was in May 1997. That means we have given back much of the gains scored in the late 1990s bull market. In fact, we have now had a stretch of almost six years during which stocks have gone nowhere.

Betting on Business: Since the March 2000 stock-market peak, the S&P 500 has lost 45%. But the real value of U.S. corporations clearly hasn't declined that much.

So what's going on here? Share prices may have fallen initially because of disappointment with corporate growth. More recently, however, the market has been driven lower by noneconomic factors, including the prospect of war, the situation in North Korea and the threat of terrorism.

But if you ignore these noneconomic factors and focus just on the U.S. economy, there's plenty of reason for optimism. Real gross domestic product grew 2.4% in 2002. If the U.S. quickly gains the upper hand in a war with Iraq, investors will likely turn their attention to the economy. My hunch: They will be pleasantly surprised by what they see.

Losing Faith: Today's nervousness shows up in UBS AG's index of investor optimism. Launched in 1996, the index hit a record low earlier this month, as investors fretted about a prolonged economic downturn and a possible war with Iraq. Irrational exuberance? There doesn't seem to be any froth left in the stock market.

The current pervasive pessimism is reflected in the e-mails I receive. Spooked by all the bad news, ordinary investors tell me they plan to stick with savings accounts and certificates of deposit until it is "safe." Eventually, of course, it will be safe to invest in stocks again. But at that point, the Dow Jones Industrial Average will probably be 30% higher.

Feeling Foolish: In late 1999 and early 2000, many investors were sure the bull market had further to run. Buoyed by that conviction, they dumped bonds and loaded up on stocks, especially technology issues. That, as we all know, turned out to be a terrible blunder.

Thus chastened, you might expect investors to be leery of making further bold bets. Yet here we are, three years later, and folks are at it again, this time dumping stocks and flocking to bonds.

But the reality is, nobody can forecast the stock market's short-term direction, so you should never make such hefty bets. Instead, you ought to buy a little bit of everything, including bonds, blue-chip stocks, smaller companies, foreign shares and real-estate investment trusts.

To be sure, that means you will always own some investments that are out of favor. Today, for instance, it seems foolish to hold stocks. But that isn't necessarily a bad thing. After all, bond investors felt pretty foolish in early 2000 and it worked out well for them.

Assuming the Worst: According to Chicago's Ibbotson Associates, the S&P 500's worst 10-calendar-year stretch was the period ended December 1938. During those 10 years, the S&P 500 lost money at a rate of 0.9% a year.

In the current decade, the S&P 500 has already had three consecutive losing years. How much worse could it get? Suppose the decade that started in 2000 turns out to be just as dismal as the 10 years through 1938.

What does that mean for the next seven years? The news is pretty heartening. If the current decade is going to match the 10 years through 1938, Ibbotson calculates that stocks would have to climb 5.7% annually over the next seven years.

Clocking 5.7% a year might seem like small potatoes after the dazzling gains of the 1990s. Still, it is a lot better than the 3.82% yield currently offered by 10-year Treasury notes.

Updated February 26, 2003