In his famous book Stocks For The Long Run, Jeremy Siegel said, “In the short run, stock returns are very volatile, driven by changes in earnings, interest rates, risk, and uncertainty, as well as psychological factors such as pessimism and optimism and fear and greed.” Siegel is a fierce advocate of long-term investing, arguing that stocks are relatively less risky than bonds over a long enough time horizon. In Siegel’s view, everyone should buy stocks and hold them pretty much forever.

Siegel is correct that stocks make a great investment over time, but are prone to short-term bouts of volatility and randomness. However, that doesn’t mean we can’t invest for short-term goals. Depending on your time horizon and risk tolerance, short-term investing can make a lot of sense, especially if you know how to properly divvy up your short-term and long-term investments.

Types of Short-Term Investments

Stocks make sense in the long run because you have plenty of time to recover from bear markets if you have a long enough time horizon. As we get closer and less tolerant of risk, we can reduce exposure to stocks and repurpose capital into safer assets like bonds or annuities.

Short-term investments can serve two purposes:

Producing a steady income stream, or
Speculating for outsized gains

If you’re speculating, you’re buying stocks and holding them for a short period of time—something Siegel advises against. Not only could you be forced to sell into a bear market, but assets held for less than a year are taxed at the income rate instead of the more beneficial capital gains rate. Unless you possess a unique prowess in picking stock winners, short-term investment should be safe and conservative.

For practical purposes, consider a short-term investment to be any type of investment you need to cash out of before ten years. Since bear markets occur once every five to six years, your ideal short-term investment won’t move in lockstep with the stock market. Some examples of short-term investments include:

Government bonds (T-Bills, Treasuries, Municipal bonds)
Corporate bonds (Investment grade)
Certificates of Deposit
Money Market accounts
Preferred stock
Cash and other cash equivalents

If you have a high-risk tolerance, you may be able to include high-dividend or blue-chip stock funds, but individual stocks and commodities probably won’t be suitable.

Types of Long-Term Investments

Long-term investments are assets we don’t plan on tapping for at least five to ten years, preferably a decade or more. Since we have a longer time horizon when picking these investments, taking on more risk isn’t just acceptable—it’s the preferred course of action. According to federal tax laws, long-term investments are held for longer than one year and get taxed at the capital gains rate (which is usually much lower than the income rate).

But for most people, long-term investments aren’t measured in months or years, but by decade. Since we have time to endure the ups and downs of the market with these assets, it’s okay to pile on the risk. Some examples of long-term investments include:

Growth stocks
US stocks
International stocks
Commodities
High-yield corporate bonds

Over time, these asset classes produce superior returns to the bonds and cash equivalents in the short-term section. After all, there’s no reward without risk, right? Long-term investments are meant to grow wealth while short-term ones are simply to maintain it.

Utilizing Long and Short-Term Investments

Not only are different asset classes ideal for different time horizons, but certain types of accounts are better suited for long- and short-term investments as well. For example, dividends and high-yield bond coupons are taxed at the income level and are better suited to be held in tax-advantaged accounts like Roth IRAs or 401(k)s. On the other hand, long-term investments like growth stocks are taxed at the capital gains rate, so you won’t be penalized as heavily keeping them in a taxable brokerage account.

One technique for utilizing both long and short-term investments in your portfolio is a strategy called bucketing. When planning with buckets, you divvy up your investment capital into three different “buckets”—the cash needed now, the short-term investments needed soon, and the long-term investments needed down the road. Fill the cash bucket up with money in savings or risk-free assets like Treasury bills. In the next bucket, use income-producing assets like dividend-paying stocks or corporate bonds to keep the cash bucket replenished while earning (tax-deferred) interest on your investments. And finally, put your long-term investments like growth stocks and small caps into the third bucket and let compound interest do its wonderful work.

Work With an Experienced Financial Advisor

Figuring out the best way to implement short-term and long-term investments into your portfolio usually means a chat with a financial advisor. If you want to self-direct your nest egg, you’ll need quality advice about minimizing taxes and proportioning your capital across different types of assets. You don’t need to expose yourself to unnecessary risk, so be sure to call Good Life Financial Advisors of Mount Pleasant for assistance.

Disclosure

The opinions voiced are for general information only and are not intended to provide specific advice or recommendations for any individual.

All investing involves risk including loss of prinicpal.

No strategy assures success or protects against loss.