It’s an exciting time for the markets. We are at a low for 2008 and many think this market downturn is here to stay, myself included. The current economic conditions are more than simply a credit crunch in the financial system, it is a low-growth, inflationary, deflationary environment that will get worse before it gets better. Let’s take a look at why the Dow is likely headed lower.

Deflationary Environment

Asset prices such as housing continue to erode. Attempting to combat this painful scenario, our Fed enacts policies to prop up inflated values of assets. The result? Contributing to run-away inflation in food and energy.

Inflationary Environment

Commodities such as energy and food have been rising for years and are crippling the economy. Consumer spending and confidence are way down. Corporate earnings are shrinking because of rising costs. I love Apple but do you think as many people are going to buy iPhones when they are getting killed at the grocery store and the gas pump?

Where’d the Growth Go?

Our economy has lost hundreds of thousands of jobs in the last year. The economy is at best growing at a crawl and at worst, shrinking. Shrinking profits translates to fewer jobs. As profits shrink, stock multiples will contract causing stocks to plummet.

What Does This Mean For Stocks?

What do these three factors add up to? A stock market that is a disaster. The pain in stocks is not over. Are there stocks that can buck the trend and outperform in an ugly market? Of course. However, most investors stick to the diversification strategy which means their portfolio value is headed lower because it will follow the overall market.

My suggestion for investors is to do either one of two things: Sell chunks of your positions and hold cash or attempt to beat the market by doing the opposite of diversification: find winning stocks and stick with them.

The Dow is headed lower. The index is heavily weighted in financials. Experts are saying we have only been through a small percentage of the write downs the banks will experience. Stay away from banks. Retail stores will get crushed. Home builders will go under.

What sectors do I like? Like I say all the time, I like international cigarettes (Philip Morris Int’l - PM), Energy (Chesapeake Energy - CHK), and Apple (AAPL) at the right levels (looking good about now). Those are my three 20s Money horsemen. However, especially in times like now, do not be late to take profits. I have been taking profits in Chesapeake as the stock has gone from $30 to high $60’s and have taken a load of criticism. My profits are locked in, are yours? Make sure you lock in a realized return! Paper returns are meaningless!

Ideal Scenario For 20-Somethings

I’m 25 and the majority of my investing is in the future. My ideal scenario would be to put away several thousand dollars from now until the end of the year. Meanwhile, I would love for the Dow to plummet to about 10,000 and be in an opportunity to deploy my funds into select companies with depressed stock prices.

The bottom line, if you are in your 20s and you are down 10% this year on a small investment, do not fret. Losing 10% of a small amount of money is not going to ruin your future. Learn from the current environment and be prepared to put money in as the market tanks! If you are older, especially if you are near retirement, your goal should be more capital preservation focused!

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