Dr. Don: Stock Market May Be Rocky, but It Still Beats CDs - TheStreet

I'm a single 40-year-old woman with no dependents who earns around $50,000 a year. I have about $278,000 invested in the stock market. All of the taxable money was put to work just this year. Before that -- and please don't laugh -- I had everything in certificates of deposit, which only earned around 5% in interest. I also have a 401(k) that's all invested in mutual funds. Am I diversified enough? I finally took the plunge and invested in the stock market only to find myself investing in the first rocky period in years. Just my luck. I'm down by about $9,000 so far this year. But I wanted to try the market myself. How am I doing? I also have an additional $45,000 in cash in those trusty old CDs. I was thinking I'd leave in about $30,000 -- or a year's living expenses -- and put the rest into individual stocks. I'd appreciate any advice on which stocks I should buy, whether I should put it into something else or whether I should leave it in the bank. -- D.M.C.

D.M.C.,

One of my favorite investing anecdotes comes from a bond trader I used to work with, now retired. As a young man he decided that he should start investing some of his savings in the stock market, so he searched for a conservative investment and wound up buying shares in

Penn Central Railroad

the day before the company declared bankruptcy! Compared with that, your fretting over being down $9,000 (3.1%) sounds like whining. If it's any consolation, you weren't earning much on your CDs -- at least not after taxes and inflation.

One of the biggest dilemmas when you radically change your investment allocations is whether to do so all at once or gradually over time. There's no right answer. If your planned investments trend higher, you'd be better off investing the money all at once. If the investments don't trend higher, and are somewhat volatile in price, you will be better off investing over time.

That's because the volatility should give you a lower average price as you buy in over time. This approach is also known as dollar cost averaging. But since you don't know for sure which scenario will play out, it will take hindsight to prove you wrong.

My perspective is that with a long enough time horizon for your planned investments, you're better off investing the money as a lump sum. Let's say that over time you expect your stock portfolio to average a 12% annual return. If you expect to earn 2% in income from dividends then you expect the other 10% to come from price appreciation, or capital gains.

That means you expect the price of your investments to increase over time, in this case, 10% annually. Well, when you expect something to be worth 10% more a year from now than it's worth today, you should buy it today.

Since you're new to investing in stocks outside your retirement plan, you may not realize that if you sell some of your losing stocks, you can use those realized losses to offset any realized gains, and up to $3,000 a year of ordinary income. This time of year, many investors are reviewing their portfolios to see what adjustments they want to make. In fact, some market pundits have postulated that tax-loss selling by mutual-fund managers has been part of the downward pressure on stock prices over the past week. A recent

Tax Forum column offers pointers on managing your portfolio's tax bill.

Meanwhile, you've got too much money invested in CDs. Most financial planners suggest you hold three to six months worth of living expenses in cash or liquid funds, like money market funds. CDs don't meet the technical definition of liquid funds because of the interest penalty for early withdrawal. As the CDs mature, I suggest a middle ground where you keep $15,000 in cash and $30,000 in

Series I Savings Bonds.

Like CDs, you can redeem the savings bonds if needed, but unlike CDs the early withdrawal penalty ends five years after purchasing the bonds. The bonds are indexed to inflation, which will protect your money's purchasing power. They're also exempt from state and local taxes, and you don't have to pay federal income tax until you redeem them.

I agree with your perspective that your portfolio shouldn't be all mutual funds, but I think you've carried the idea a little too far. You've got 19 individual stocks on your list representing 64% of your financial assets. As part of your tax planning, pare back this list. Use the proceeds to buy into a no-load stock index mutual fund. See

Indexfunds.com for listings of which mutual funds track the various stock indexes.

I'd also like to see you hold about a dozen individual stocks in your taxable portfolio along with the index fund, with the index fund representing 25% to 30% of your financial assets. Index funds are fairly tax-efficient so you shouldn't have to worry about large taxable distributions. When in doubt, contact the fund and ask about the timing of the next scheduled distribution. For more on how mutual-fund distributions can hurt you taxwise, see

Jim Cramer's

Smarter Money column on why you shouldn't buy a mutual fund in October.

When you're convinced you want to invest in a company's stock, you should also take a look at the sector fund for that company's industry. If you think you know why the company will beat the industry, then buy the stock. If not, buy the fund.

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Dr. Don Taylor has been an investment professional for nearly 15 years, most recently as the treasurer for a nonprofit organization where he managed more than $300 million in assets. He is a chartered financial analyst, holds a Ph.D. in finance and has taught investment and personal finance courses at the University of Wisconsin and at Florida Atlantic University. Dr. Don's Portfolio Rx aims to provide general investing information. Under no circumstances does the information in this column represent a recommendation to buy or sell. Dr. Don welcomes your inquiries and feedback at

portfoliorx@thestreet.com.