Dear Dagen: Don't Flee, Fix It!

The market seems to get uglier by the day.

The Dow delivers one triple-digit loss after another. And the Nasdaq now looks as though the late-1990s bull market never even existed.

Should you buy, sell or just crawl under your bed and wait it out?

Even if you feel absolutely paralyzed, there are still some things you can do with your portfolio. You have every right to be frustrated, angry and even fearful. But you don't have to sit there and watch what's left of your portfolio evaporate.

Here are a few things to do if you're tired of waiting for that phantom market rebound.

Save Rather Than Invest

When the market was going up 20% or 30% a year, putting all your money into stocks probably seemed to make sense. You could turn $1,000 into $1,500 in no time flat.

But everyone needs some cash on hand in case of emergencies. "You should have three to six months of money set aside to pay expenses," says financial adviser Ron Roge in Bohemia, N.Y. This money is there to cover things like unexpected medical bills, car repairs or even a leaky roof that you can't put off fixing.

If you lost your own stash of cash in the market, it's time to start building it up again. And that money should go straight to your bank, not your broker.

Sell Something

If you're sitting on some stocks or mutual funds that you can't bear to look at anymore, then sell them.

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Selling some real losers doesn't mean that you're abandoning your long-range investment plan. And it doesn't mean that you're chasing performance -- buying high and selling low.

If you've sat on some shares of Sun Microsystems (SUNW), for example, and have a fat loss in that position, you can dump that stock and take the loss on your taxes. You can first use that loss to offset any capital gains that you have. If you don't have any gains to speak of, you can use that loss to offset up to $3,000 in ordinary income. After that, you can carry that loss forward and use it in future tax years.

Plus, you only have to wait 30 days to buy back the same stock to avoid the wash-sale rule. (The wash-sale rule prevents you from claiming a loss on the sale of an investment if that same investment was purchased within 30 days before or after the sale date.)

With mutual funds, you don't even have to wait that long. You can sell one fund and immediately buy a very similar fund without triggering the wash-sale rule. Say you sell shares of the (JANSX)Janus Fund. You turn around and buy another large-cap growth fund, like (MGRIX)Marsico Growth, without tripping on this IRS regulation.

Of course, tax-loss selling isn't a good excuse to unload every stock or fund that's in the red. But it will give you a reason to go through everything you own and decide which stocks or funds have fallen on hard times and probably won't make a comeback anytime soon.

Decide What to Dump

With some rotten stocks, there's no need to conduct an internal debate over whether you should keep them. If you own a WorldCom or even a Qwest Communications, feel free to jettison them. Any stock that's plagued by regulatory investigations and/or corporate fraud is not one you want to own.

Thankfully, you don't have the same worries with mutual funds. But there are still a few clear reasons why you can ditch a fund. If a fund's three-year and five-year performance ranks in the bottom 25% of its category, then you can get rid of it. That tells you a fund -- even if it might be in a hard-hit sector like tech -- hasn't even come close to beating a majority of its peers. You can also sell a fund if you simply can't live with its wild swings in performance or if you own too many of one type of fund, say, large-cap growth.

But those last two arguments really go back to the d-word: diversification. A varied mix of stocks, bonds and cash will do a lot to reduce the swings in a portfolio's performance. Look at this example from Vanguard: A portfolio with 100% in the Wilshire 5000 Index would have fallen almost 28% from March 2000 through May 2002. If you'd had 40% of that money in the Lehman Aggregate Bond Index, the portfolio would have only been down 9.8%.

That's still a loss -- but it's one that's easier to live with.

"Chances are, if you're really upset right now, you don't have a proper asset allocation," says Roge. "And it's never the wrong time to do the right thing."

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