Typical investor

Generally speaking, investing in common stock is a young person’s game. As we learned in the two previous sections, stocks are subject to numerous risks and the stock market can experience wild fluctuations. Investors who cannot afford or mentally cope with significant account value fluctuations should avoid stocks. The older an investor, the more likely they’re living on a fixed income and cannot afford to lose large amounts of money.

Older investors can and probably should keep a portion of their portfolio invested in common stock. However, their common stock allotment should decline as they age. Many investors use the rule of 100 to determine the appropriate portfolio allotment for stock. According to the rule, investors should subtract their age from 100 to find the appropriate amount of common stock for their portfolio. For example:

The older an investor is, the less money they should have invested in stocks and the more they should invest in fixed-income securities like bonds. While age isn’t the only suitability factor, the rule of 100 is a great starting point for recommendations. From there, other factors determine if the recommendation is appropriate. For example, it could be suitable for an 80-year-old investor to have 80% of their portfolio in stock if they have a large amount of assets and aren’t relying on the portfolio for living expenses. Or, a 20-year-old may only be suitable for 20% of their money in stocks if they’re disabled and living on social security. Age is one of many suitability factors.

Another reason older investors tend to avoid large investments in stock is the time horizon. In the short term, the stock market is very unpredictable. COVID-19 is a great example of this. In late 2019 and early 2020, the stock market was near all-time highs, but then experienced the fastest market decline in history in March 2020. The short-term outlook is nearly impossible to predict.

Regardless, investors can reasonably expect the stock market to increase over long periods of time. Over the past 100 years, there have been numerous bear markets and large declines. The Market Crash of 1929, which led to the Great Depression and the Great Recession of 2008 are examples of circumstances that resulted in a plummeting stock market. No matter how large the decline was, the market recovered and grew beyond its previous highs. We’ve already witnessed the COVID-19 stock market recovery, as the S&P 500 attained a new all-time high in September 2020. Recoveries may take a few months or several years, but history tells us a recovery will eventually occur. If it doesn’t, we have bigger things to worry about!

The typical common stock investor could be seeking capital appreciation, income, or both. Some stocks only have capital gain potential, which is common for smaller growth companies or larger companies expanding business operations significantly. As we discussed in the benefits section, Amazon is a good example of a large growth company.

In that same section, we also discussed how companies like McDonald’s, Walmart, and Home Depot pay quarterly dividends to shareholders. While these companies don’t have as much growth potential as companies like Amazon, investors can make significant returns by collecting dividend payments over time.