The Importance of Being Liquid
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Here's a test of your financial prognostication prowess. The best-performing asset class of 2010 will be:
- Small cap stocks
- U.S. Treasuries
- Foreign currencies
If you know the answer to this question, you can stop reading this article and start making plans to buy your own private island along with a boat and plane to go with it. Clearly, you have psychic powers.
For the rest of us, deciding where to invest our money next year won't be so easy. Will this summer's rally turn into a bull market once the economy rebounds, or will gun-shy investors take their money off the table and park it in CDs? And what if the economy heats up too fast and the Fed slams on the brakes by raising interest rates? Will more banks bite the dust?
What to Watch
Here are some benchmarks investors should keep an eye on in the coming year for signs of recovery that can shape personal investment direction:
Inflation. If the economy heats up too fast, the Fed will step on the brakes by raising short-term interest rates, causing long-term rates to rise and dousing the stock market's rally.
Interest rates. The credit crisis may be over for big banks and corporations, but consumers and small business owners are still getting squeezed. The spread between short- and long-term interest rates must narrow before credit cards and mortgages become affordable and America starts spending again. High interest rates are typically good news for investors in cash and bonds, but bad news for investors in stocks and real estate.
Housing market. Real estate values need to stabilize before the economy can get back on its feet again. This means the rate of existing and new home sales must rebound. A housing recovery would be good news for investors in consumer stocks and real estate. Homeowners would once again be able to tap their home equity for big-ticket purchases.
Because the financial markets have been so volatile these last few years and may continue to give investors a bumpy ride, Kaplan says it pays for investors to stay liquid and to diversify their holdings through vehicles such as mutual funds and ETFs (exchange-traded funds) rather than make big bets on individual securities. "Individual bonds, including municipal and corporate bonds, are not as easy to sell on a time-sensitive basis without paying a premium," Kaplan says. "Hedge funds have very limited liquidity, and private equity has virtually no liquidity at all."
As I've stated here before, liquidity is especially important for entrepreneurs like us who may need to use our personal assets as collateral for credit lines and real estate loans. We may also need to use the cash flow from our personal investments to keep our companies going through tough times. So, while it might be great to be able to put our money to work in an investment vehicle that produced double-digit returns, we may not be able to afford to tie up our capital for that long or to sustain huge swings in our portfolio's value.
Remember: For most of us, our company is the most valuable asset we have--and the place where we're going to invest most of our money next year. But until Google offers to buy it, our company is also the least liquid investment we'll ever own.
That's why Kaplan suggests that business owners looking for appreciation beyond the growing value of their companies speak to an investment advisor about assembling a portfolio composed of a combination of equities, real estate and hard assets and generating current income through bonds and dividend-paying stocks.
"Investment strategy is based on asset allocation focused on lifestyle, growth and opportunistic allocations," Kaplan says. "If you're an entrepreneur, you should look at your company as the opportunistic part of that strategy."
Rosalind Resnick is founder and CEO of Axxess Business Consulting, a New York consulting firm that advises startups and small businesses, and author of Getting Rich Without Going Broke: How to Use Luck, Logic and Leverage to Build Your Own Successful Business. She can be reached at firstname.lastname@example.org or through her website,www.abcbizhelp.com