As I’m sure most investors are aware, the stock market has rallied in the last eight weeks in an unequaled—and unsustainable fashion. Although it has been great for their portfolios (assuming some of their investments are still in the market), I hope investors don’t fall into the trap of complacency and think that it’s going to be all smooth sailing from here on.

Investors often have short memories. It was only eight weeks ago (March 9, 2009) that the Dow Jones was at a low of 6,547 and the world was “falling apart.” As of May 6, 2009, the Dow closed at 8,512, which is a whopping 30% increase! Is there anyone who believes that this is sustainable?

What caused this tremendous run? I believe that the initial catalyst was the covering of positions by investors who had shorted the market. This is a risky and complex strategy that is often used by large, institutional investors to cause the market to artificially increase, which may be a part of what is happening now.  A second catalyst may be that, as the momentum built, other investors began to get on board from an emotional standpoint. Most folks simply felt the market couldn’t go any lower and therefore began to get back in.

Has anything changed fundamentally though? No! The government is still subsidizing banks; GM and Chrysler are still bankrupt; the unemployment rate is still hovering around 10% ; foreclosures are still on the rise; and trillions of dollars are still being thrown into the economy!

What’s next? There seem to be only two options that make sense. The first possibility is that the market is going to suffer another pullback of 10%-20% (which I believe is the most likely scenario). The second possibility is that the market will simply remain level during the foreseeable future.

So what is an investor supposed to do now? My clients and others who know me are familiar with the fact that I am not a big fan of general answers, and here’s why. There may be two individuals with the same dilemma in what appears to be similar circumstances. Yet, there may be two completely different recommendations because of something as subtle as how each of them feels about it. One may have a high tolerance for risk while the other does not. Therefore, as I give you my best answer below, please do not act on this information without contacting me or your own financial planner.

Generally speaking, an investor’s age, goals and tolerance for risk are probably the three most important factors to consider when determining what their next move should be. For individuals in their 20s through 40s, the stock market is probably the best place to be. Unarguably, there are a lot of good deals out there today, and since these investors have a multiple-decade time horizon, the stock market would be a prudent choice. Another valid consideration for the younger investor would be the real estate market. Of course, there are many pros and cons that need to be considered before going in this direction.

As investors begin to move into their 50s, they need to become more aware of their situation. Most folks in this age range who come into my office for their first consultation have never taken the time to crunch the numbers to determine what amount of income they will need during retirement. Furthermore, they have never calculated how much income they will get from all of their retirement sources, including their investments!

This is a dangerous way to approach retirement. It is best to work backwards in order to calculate how much you will need. Calculate what your expenses will be during retirement, translate that into the amount of net income you will need, add in taxes to come up with the gross amount and then adjust periodically for inflation. Only after doing this can you assess how you should be investing your money in your 50s and beyond.

If you find yourself falling very short, you may need to take on some additional risk, especially if you are in good health and can plan on working until you are 65. On the other hand, if you have plenty of retirement savings to last throughout your retirement, then why take the extra risk? There are plenty of conservative and moderate investments that will allow you to keep pace with inflation without subjecting you to the dramatic losses inherent in stock market investing.

Finally, if an investor is in their mid-60s or beyond, they probably already know where they stand with their retirement and whether they are in trouble. The most overlooked mistake that I see made in this age group is the failure to plan for inflation. Although it was only fifty years ago that the average life expectancy was around 67, someone retiring today may live to be in their 80s or 90s. While that is great news, it is imperative that retirees make sure they don’t run out of money and they don’t lose buying power because their investments are not keeping pace with inflation.

Over a typical 20-year period, the dollar usually loses two-thirds to three-quarters of its value. That means that someone who retires today at 65 may need three to four times their income by the time they are 85 years old! If a retiree has enough money to live comfortably through retirement, then why gamble in the stock market? The primary goal for those headed towards retirement should be preservation of principal and keeping pace with inflation.

On the other hand, if a retiree determines that they may run out of money during retirement, what would be the most prudent approach? Since there are so many scenarios and possibilities to discuss, this is where the services of a financial planner would be very useful. But I will suggest a few ideas for you to consider.

If a retiree has saved some money, but not enough to withdraw the amount needed to maintain their current standard of living, the most obvious action would be to lower the standard of living by cutting expenses, or even selling the residence and moving into a less expensive home, thereby having the remaining equity to supplement their income.

What if a retiree doesn’t like this option (which I find to be true more often than not)? Then they have to look at their current resources much closer. Is a reverse mortgage an option? What about an immediate annuity? Would it make sense to buy back their Social Security income, which is something most folks don’t even know is an option? Can they earn extra money by providing some type of consulting service? I have multiple clients who are going to be earning extra cash in their spare time by working for the census bureau counting houses.

What about doing a combination of things, scaling back on the expenses for now while investing a little more aggressively in a reasonable manner? You want to be careful with this approach because if you’re already short on your retirement savings and your investing doesn’t go so well, you will only be that much deeper in the hole. I usually only recommend that my clients do this if they have equity to fall back on, knowing that in a worst-case scenario they will still be okay.

If this information has caused you to question your own financial or retirement situation, please consult a financial planner. It is much easier to deal with the problem in the early stages then after it becomes too late. As always, feel free to contact us if you have any questions.