WHAT YOU CAN DO

Short, short version: Cut your spending, postpone purchases, save more money, open a brokerage account, determine an appropriate asset allocation for yourself, maximize your Roth IRA contribution, maximize your employer 401(k) match if available, and stay employed at all costs.

Diversify - If you own one stock and it bombs, you've lost 100%. If you have twenty stocks of equal value and one bombs, you've only lost 5%. The same holds true with bonds, mutual funds, real estate, and other investment vehicles, so spread your wealth whenever possible.

Open a brokerage account - If you have not done so already, open a Roth IRA account with a broker/dealer firm like Fidelity, TD Ameritrade, E*Trade, or similar firm, and make the maximum contribution possible given your income. The money grows tax-free until you reach retirement, and you can access those assets tax-free for certain expenses like college and disasters. There is no better investment vehicle in existence in the United States, today, even if you put the money in and let it sit in a money market it will make more than it will in your checking account.

First Step 1 - Pay down debt, if any In 95% of situations you should pay off your debt before you invest. Credit card bills, car payments, personal loans, student loans, and similar debt are in this category. The exception is typically a mortgage because it offers tax benefits and a low interest rate. However, given the uncertainty in the marketplace, it may not be a bad time to consider either refinancing to a lower rate if you still have a long mortgage period or paying off some of your loan principal. If you have no debt, increase your savings rate by cutting expenses. This is "taking your lunch instead of buying it" type stuff.

Step 2 - Reassess how much cash you need Everyone caught like a deer in the headlights for the past year has been rewarded handsomely by Not Losing. Unfortunately, Not Losing is not the same as Winning. Cash has been attractive, but those investors will inevitably get caught with their pants down as inflation - the slow rise in prices - eats into the value of their savings. T-Bills and Savings Bonds are cash-alternatives due to their low interest rates, but are often below the rate of inflation. Keep only what you need for the next two to three months in cash to meet expenses should it be necessary, but put the remaining assets to work in appropriate investments.

Step 3 - Asset allocation Once you have determined your cash needs, you need to figure out where to invest, and how much of your money to put into each type of investment. The longer your time horizon, the more risk you can take. Even in a tough economy, for young people it will look something like 10% cash, 20% fixed income (bonds), and 70% stocks. Retiring folks are more conservative, with 20% cash, 70% fixed income, and 10% in stocks. A very basic asset allocation model can be found here, or you can perform a basic Google search to find more information.

Step 4 - Start Investing Whatever your preference - bonds, equities, commodities, etc. - there is generally a mutual fund (or ETF) that invests in those securities in a diversified portfolio at a low cost (see this entry for more about mutual funds). Typically you are going to find your lowest cost options in indexed funds. For example, if your asset allocation model calls for 70% stocks and 30% bonds, you might consider 70% iShares Russell 3000 Index Fund (NYSE: IWV) and 30% Fidelity U.S. Bond Index Fund (FBIDX). Follow your asset allocation model, reassess that model annually, and make adjustments as necessary.

• Maximize your 401(k) match if available - It's free money you are forfeiting, otherwise
• Maximize your Roth IRA contribution if you are a qualified U.S. investor - It is the best tax-free investment vehicle available
• Open a brokerage account, and start investing - Consider tax-sensitive investment vehicles like municipal bond funds rather than corporate bond funds if you are in a higher tax bracket

"HELP! I have no money to buy expensive investments!" Refer to Step 1 and this blog entry.

Disclosure: I am just one man; I have taken in a limited amount of information - like anyone - and have drawn my own conclusions. It is up to you, the reader, to make your own decisions. I am not a financial adviser, and my opinions are my own. Nobody, nobody, nobody knows what anyone should do. There are many people who will guess what might be the best course of action based on historical information - and every model and bit of advice is based on historical information - but you cannot guarantee that the past will reflect the future, despite what historians may have you believe.

Index of Personal Finance Entries
Part 1 of this series located here.