Cash

During the 1990s, putting your money in cash or a certificate of deposit (CD) seemed like a dumb idea. After all, a CD, offered by most banks and financial institutions, gave you a return of no more than 5 percent a year. At the time, people became giddy when they saw the value of their stocks go up by huge amounts. A 5 percent return on a CD seemed like a bad joke.

The joke backfired, however, when people held their favorite stocks too long. By the year 2001, the market had reversed. Many investors who had held onto their favorite stocks lost nearly everything. Those 5 percent CDs and an old-fashioned savings account (paying only 1 percent a year) seemed like mighty good ideas. One percent a year isn't much-in fact, it's a terrible return-but it's better than losing money.

If you have a preference for cash, you can also put your money in a money market fund, which pays a little more than a bank. (A money market fund is a mutual fund that invests in such short-term securities as CDs and commercial paper). You can also invest directly in U.S. Treasury bills, which offer the advantage of safety because they have the backing of the U.S. government. (Money market funds aren't insured.)

By keeping some of your excess cash in a money market account, you are protected from vicious bear markets. In addition, you can use excess cash to buy your favorite stock or mutual fund. You'll also learn that it's nice to have extra cash on the side to pay for emergencies and unexpected expenses. There's no rule that says that every cent you have should be invested in the stock market.

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