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How Not to Lose Everything and Die Broke

Editor's Note: Bill Patalon wrote the book on contrarian investing, literally, when he co-authored the 1998 bestseller, "Contrarian Investing." And as his paid up Private Briefing readers know, he's simply the best there is at "betting the other way" and winning - more than 217 double- and triple-digit peak gainers since 2011. So, right now - when the market pundits are overflowing with optimism and major indexes have only just stopped breaking all-time highs every other day - Bill thinks it's the perfect time to prepare for the worst and build a strategy that will keep your money safe and growing vigorously during downturns. He's going to show you how to do precisely that now...

We've just been through a very healthy post-election rally that pushed the S&P 500 up a bit more than 6%, as of this week.

The history buffs out there, like me, will note the S&P 500's "Trump Bump" was a little less than twice as powerful as the 3.7% shot in the arm Franklin D. Roosevelt's election dealt the index, but a bit less than half as potent as the ripping 13.29% rocket ride Herbert Hoover's victory "catalyzed" on the S&P 500 between his election in 1928 and his swearing-in.

But… we all know how that rally ultimately played out for investors of Hoover's day.

At his inauguration on March 4, 1929, "the Great Engineer," as Hoover was called, could rightly boast of huge market gains. And of course barely eight months later, by Oct. 29, the U.S. stock market was a smoking ruin, closing the door forever on the Roaring 20s and lifting the curtain on the Great Depression.

Now, I'm not saying we're in for a repeat performance. Not at all. But I am conscious of the history, and as a dyed-in-the-wool contrarian, I'm inclined to prepare for the worst, especially if the good times are rolling.

Besides, I agree 100% with our Chief Investment Strategist, Keith Fitz-Gerald, when he says that, "Chance favors the prepared mind."

So even if it's the farthest thing from your mind, there's no time like right now to take in a few of what we here at Money Map Press like to call "Downturn Lessons." They'll not only save you a lot of heartache when the weather changes, but you'll be in a much better position to make money at a time when nearly everyone else is losing it.

So let me share them with you.

Downturn Lesson No. 1: Don't Run for Cover

Investors are lousy at predicting short-term market trends. Indeed, as I hinted just a moment ago, if you sell out in a bad market and miss the rebound (or even miss a handful of the "best" market days), your long-term returns plummet.

If you invested $10,000 in the S&P 500 at the start of 1995 – and stayed fully invested to the end of 2014 – your average annual return would have been 9.85%… and your stake would have grown to $65,453, JPMorgan Asset Management said in its 2015 "Guide to Retirement."

But if you missed just the market's 10 best days, your average annual return would plunge to 6.1% – and your portfolio would only be worth $32,665. In other words, missing those few days where stocks were stock cut your gains in half.

It gets worse.

Miss the 60 best days (you cash out, run to the sideline, and only reinvest after the market outlook becomes "clear"… meaning you dozed through most of the bull-market rebound), and your portfolio actually records an average annual loss of 3.84%.

That $10,000 you invested? It's now worth $4,570 – after two decades in the market.

Build yourself a nice "foundation" of investments with a long-term horizon. And augment that by looking for special-situation opportunities. That's a one-two punch that will really put you on Easy Street in the long run.

Downturn Lesson No. 2: Keep Your Plan Updated

Everyone should have a financial plan – a written document that outlines your financial goals… and details how you expect to achieve them. Be sure to assess whether you're behind, ahead, or right on schedule. Do a new assessment each quarter.

Downturn Lesson No. 3: Reassess Your Tolerance for Risk

During the "dot-com" boom, lots of historically conservative investors were making so much money that they ceased to be concerned that this was being done by using increasingly risky stocks. (I have a story to share on this… in a few minutes.)

When that dot-com boom turned into the "dot-bomb" bust, lots of folks were positively horrified by the shellacking they took. A physical therapist friend of mine was so badly stung that he can't retire – and he continues to work today – in his late 60s, even though his health problems have left him virtually crippled and visually impaired.

Don't get stung like that.

Take the time to assess your risk tolerance. And be honest. How much volatility can you really stand? How will you feel if the big gainers you're sitting on fall back, eradicating a chunk of those gains? Do you have the emotional makeup to ride through a whipsaw market? What about a full-blown crash? Finally, has your risk tolerance changed – due to the change in your age, financial situation, new goals, or experience in the markets?

Once you've answered those questions, make any changes you feel you need to make in order to feel more secure in such a potentially uncertain environment.

Downturn Lesson No. 4: Ditch Your Dogs

No, not your pets.

In fact, during times of intense stress, studies show that pets can help you relax, and actually promote wellness. (And I love animals…)

I'm talking about ditching your "doggy" investments – the stocks, funds, or other holdings that have cratered in value or have done nothing during this powerful bull market. By dumping those laggards, you help yourself in a bunch of ways.

First, you reduce the odds for still-steeper losses. You raise capital for new profit opportunities and even create a "margin of safety" in your holdings. And if you put that cash to work in a better-performing investment, you also rev up your returns.

Downturn Lesson No. 5: Harvest Some Tax Write-offs

If you have losses in some of your mutual funds, stocks, or ETFs, you can save some money on your taxes but still stay invested pretty much as you were by executing what's known as a "tax swap."

You lock in the capital losses by dumping the losing positions and purchasing positions in companies in similar industries or funds with similar investment mandates. If you do this, make sure to beware of the "wash-sale rule," which can disallow the tax break if you invest the sale proceeds in a "substantially identical" investment within 30 days of the sale (before or after).

Let's say you have a stock that's a loser, but that you still like. And you worry it could pop during the 30-day stretch that you're "out" of it.

Here's a neat trick a mentor of mine taught me years ago.

Buy an equal position in the same stock… then wait 31 days or more and sell the first position. If the stock moves in the interim, you'll go along for the ride. Otherwise, you've booked a loss that can offset other gains, but are still in line to profit if the stock rallies. And you're in at a lower cost basis than the original position. Talk to your accountant before you make any of these moves.

Downturn Lesson No. 6: Switch to an "Accumulate" Strategy

Thanks to Wall Street's sell-side analyst community (and some popular investment shows on certain cable channels), we're trained to think in terms of "Buy, Sell, or Hold" when it comes to stocks.

Join the conversation. Click here to jump to comments…

About the Author

Before he moved into the investment-research business in 2005, William (Bill) Patalon III spent 22 years as an award-winning financial reporter, columnist, and editor. Today he is the Executive Editor and Senior Research Analyst for Money Morning. With his latest project, Private Briefing, Bill takes you "behind the scenes" of his established investment news website for a closer look at the action. Members get all the expert analysis and exclusive scoops he can't publish... and some of the most valuable picks that turn up in Bill's closed-door sessions with editors and experts.

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  1. Byron Mullen | January 20, 2017

    Take a course from Dave Ramsey-Financial Peace University. Cut up all your credit cards or have only one and NEVER carry a balance to pay interest on.
    Get out of debt and stay out of debt.

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