By Walter Updegrave
NEW YORK (CNNMoney) -- I think too many investors (myself included) try to outsmart the market by constantly fine-tuning their portfolio. Wouldn't we all be better off just keeping it simple by holding a small handful of index mutual funds or ETFs and just rebalancing that portfolio once a year? -- P.C., Boise, Idaho
As we reflect back on the tumultuous events of 2011, I think "keep it simple" ought to be at or near the top of everyone's list of investing resolutions for the New Year.
Because if there's one thing we should have learned over the last year it's that investing on the basis of speculation, whim or fear is a loser's game that's incompatible with building wealth over the long term.
Investors' fortitude was really put to the test this year, however. Three major themes dominated the investment scene in 2011: the notion that bonds were a bubble about to burst; that the haggling over increasing the debt ceiling would send the markets into a death spiral; and that the European debt crisis would unleash Armageddon on the global financial markets.
'Terrified' of the stock market: What should I do?
Given the financial press's typically hyperbolic coverage of these issues, it's no surprise that I received a steady stream of emails throughout the year from terrified investors ready to dump their investments and huddle in cash.
So how did investors who acted on all all those dire predictions make out?
Let's take bonds first. Although there were a few dips and dives in the bond market over the course of the year, the big bond bust never materialized. Quite the opposite, in fact.
With just two business days left in the year, the Barclays Capital Aggregate bond index -- a widely followed benchmark of investment-grade government and corporate bonds -- had gained almost 8% in 2011. So anyone who dumped bonds in anticipation of a rout this year overreacted -- and gave up a shot at a decent return in a tough year.
And what about U.S. stocks? Congress's seeming inability to agree on a way to increase the federal debt ceiling last summer had many investors wondering whether they'd be better off dumping stocks and moving into cash to avoid a market rout.
Stay cool when news gets scary
And, indeed, if you look at a chart of the stock market's performance during the year, you'll see that the market did slump 19% from early July to early October. But that had more to do with the unfolding debt crisis in Europe than the haggling over the debt ceiling here at home.
Besides, by Wednesday's close, stocks had regained roughly 60% of that drop. And investors who were in stocks at the beginning of 2011 and held on actually experienced a gain of almost 2%. Granted, those returns are hardly anything to rejoice over, but they are a far cry from the cataclysm many feared.
The third issue that galvanized investors' attention this year was the European debt debacle. This little drama started in Greece but quickly cast a pall over most of Europe. The result: Foreign stocks -- European shares in particular -- took a drubbing, dropped more than 25% from early May through late November and lost roughly 13% on a total return basis from the beginning of the year.
Of course, how individual investors fared depends on the overall makeup of their portfolio.
If you had 50% of your holdings in bonds and 50% in stocks (of which, say, a quarter was in foreign shares) then as of Wednesday's close you had a 3% gain for the year. If you had more in stocks, say, 60% (again, with 25% of that stake in foreign shares), then you squeaked by with a smaller gain of almost 2%. And if you were more aggressive -- say, 80% in stocks (with the same proportions of U.S. and international as above) and just 20% in bonds, then you had a modest loss of less than a half a percentage point.
These figures represent the return you would have earned on the money you had invested from the beginning of the year, assuming you reinvested interest and dividends and didn't move your money around. This is hardly what you would call knock-your-socks-off performance. But, considering all the Sturm und Drang and ominous predictions, not a catastrophe either.
Ah, but couldn't someone have done a lot better by moving out of both domestic and international stocks before they slumped and then getting back in for the rebound?
Sure. You could easily construct a scenario where someone would have earned a higher return jumping in and out of the market at key turning points. But the question is whether you believe that's possible in real time vs. 20/20 hindsight. I don't think it is.
When to put your cash back into the market
All in all, I think the past year provided a good demonstration of the futility of trying to invest off the headlines -- and a reminder of why you're better off setting an asset mix that makes sense given your investing time horizon and sticking to low-cost index funds which limit the drag of fees.
To set that mix, you can consult our Asset Allocation tool. And for the names of index funds and ETFs, you can check out our MONEY 70 list of recommended funds.
Aside from periodic rebalancing, you'll then want to stick with that blend, resisting the urge to buy or sell based on market movements or, worse yet, on the blather emanating from Wall Street and the financial press.
So I hope that anyone looking for a New Year's investing resolution will take your suggestion to heart. But whatever strategy you and other investors eventually decide on, I wish you all the best in 2012.