It only hurts if you sell

UPDATE: President Bush on Friday signed legislation that increased the amount of savings insured by the FDIC in an account from $100,000 to $250,000 (until December 31, 2009).

With the stock market gyrations the last few days, several people asked me if I was in trouble because of the stock market. My answer was simple, "No, because I don't have to sell any investments."

The recent roller-coaster highlights an important aspect of personal finance: the stock market really isn't rational.

Financial institutions (mutual fund management companies, 401(k) administrators, insurance companies, and so on) initiate most trading in the market. You'd think these organizations would be smart enough to remain calm, but that's clearly not the case when the market drops 700-plus points one day and then gains 350 points back the next. The people who started buying at the bottom of the big drop made some fast money, but the people selling when the market was 690 points down look like chumps.

It turns out individual investors often act smarter than big financial companies. Spoken more plainly in the movie, Men in Black, "A person is smart. People are dumb, panicky dangerous animals and you know it."

If you need a little moral support, remember to not let your emotions control your investments. "Buy low, sell high" is the sure-fire way to make money in the stock market. Yet, fear and greed drive many investors to buy high and sell low. People buy when prices are skyrocketing even though the prices are sky-high already. That usually turns into a freefall accompanying by screaming and flailing when the rocket burns the last of its fuel. Fear can make investors sell investments when the market has plummeted. If the market has already dropped, it's too late to sell; you should be buying more.

Ignoring the emotions of the herd is the way to go when the entire market reacts to events. Handling an individual stock, mutual fund, or other investment is a different story. You have to dig deeper into what's going on and decide whether the price changes are warranted. A stock might plummet because a story just broke that the CFO was creatively accounting. In that case, getting out is sensible because the shares could end up worthless. If an individual stock jumps, it could be due to a lucrative new contract.

As long as you don't need the money in your investment accounts right away, you don't have to worry about their values bouncing around day to day. A retirement portfolio is supposed to pay for retirement. If stopping work and starting to withdraw from your retirement accounts is several years away (and could last 30 years or more), you can afford to wait for the market to recover from its current malaise. Over the long term, your portfolio will get back to and grow higher than where it was a year or two ago.

Money you need in the next couple of years shouldn't be in stocks for the same reason. You don't want to sell stocks when they're down, so near-term cash should be in more stable investments: certificates of deposit or savings accounts where the only thing that changes is the interest rate the bank pays.

With some banks going under, the $100,000 limit for FDIC-insured (Federal Deposit Insurance Corporation) deposits is crucial. If you have more than $100,000 in savings, congratulations! But, limit each savings account to $100,000 $250,000. If the bank goes under, you get your balance from the FDIC.