Why Young Investors Should Love the Crash

Most of the news you've heard over the past couple of weeks has focused on how cataclysmic the big sell-off in stocks has been. But one group of investors should hope that the market keeps on dropping -- and be ready to swoop in to take advantage of the huge bargains that would result.

Steering clear of stocks? Not so much
Ever since the market meltdown in 2008 and early 2009, financial planners have had concerns about young investors staying away from stocks. The idea was that like those who grew up in the aftermath of the Crash of 1929 and the Great Depression, young investors who had only known the market's lost decade of the 2000s would conclude that stocks were a losing bet and avoid them in favor of other investments.

But recent research suggests that the impact on investors under age 40 hasn't been as big as once thought. On one hand, data from the Investment Company Institute shows that only 35% of those born between 1970 and 1979 own stocks, down from 55% 10 years ago. Yet a closer look at 401(k) plans shows that average equity allocations in young workers' retirement accounts have jumped sharply -- from around 40% in 2003 to nearly 85% in 2010.

The report concludes that the reason for the shift has to do with investment options. In particular, 401(k) default choices that include target retirement funds tend to invest nearly all of their money in stocks for young workers, which is a big change from old defaults that put workers into cash investments.

The best stocks for young investors
As hard as it is to buy stocks after a market plunge, young investors should be salivating right now. For the first time in a while, individual stocks across the board are getting cheaper, giving you carte blanche to pick up shares of the companies that interest you the most at prices you haven't seen for a long time.

But if you don't know much about stocks, which ones should you pick? You can always go with a broad-market index mutual fund or ETF. But choosing individual stocks has a side benefit: You get a chance to invest up close, getting familiar with companies and learning about what makes one stock better than another.

In particular, young investors should consider stocks that fall into these categories:

  • Pick some stocks that will outlast you. With 30 to 40 years or more before retirement, you want some of your portfolio to include stocks that will be there when it's time to sell. You can expect to see continued growth throughout your lifetime from companies like Costco (NAS: COST) and McDonald's (NYS: MCD) , which have stood above their competitors over time.

  • Take some risks. On the other hand, with so much time, you can afford to invest aggressively. Google (NAS: GOOG) dominates one tech niche but is branching out to others, with prospects for huge growth if it can succeed. Intuitive Surgical (NAS: ISRG) is on the literal cutting edge of robotic surgery with its da Vinci systems. Both already have good histories, but each has much further to go if things continue to go well in their respective industries.

  • Use dividends to your advantage. Even as they're buying modest numbers of shares with their limited funds today, many young investors don't realize that reinvested dividends will eventually boost their holdings by many times. Especially with high-yielding stocks Annaly Capital (NYS: NLY) , Terra Nitrogen (NYS: TNH) , or even AT&T (NYS: T) , putting your dividend payments back into buying new shares can help your portfolio multiply much more quickly over the years.

Finally, try to have some cash on hand to take advantage of situations like the one we're in today. Occasionally, market drops will give you a chance to buy in on stocks that were previously more expensive than you wanted to pay. With some cash on the side, you'll always be ready to take advantage.

You're never too young to get started
Fortunately, young investors are more resilient than some give them credit for. Even as others panic about falling stock prices, some young investors will turn this into the opportunity of a lifetime by taking the plunge and getting off to a great start on their investing careers. You can too.

Looking for a stock with big potential? Watch this Fool video on the hottest IPO of 2011 and find out how you can cash in.

Tune in every Monday and Wednesday for Dan's columns on retirement, investing, and personal finance. You can follow him on Twitter here.

At the time this article was published Fool contributorDan Caplingerisn't quite young enough to love the crash, but he's not too upset about it either. He doesn't own shares of the companies mentioned in this article. The Motley Fool owns shares of Annaly Capital, Google, and Costco. Motley Fool newsletter services have recommended buying shares of Google, Costco, McDonald's, Intuitive Surgical, and AT&T. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Fool'sdisclosure policynever crashes.

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