Welcome back! Today we’ll move forward with our discussion on saving and investing for retirement. One of the most common questions to come up is “what should I invest in?” We could spend weeks, months, even years on this topic, discussing 401ks, IRAs, mutual funds, etc., and frankly there are people with degree and decades of experience who don’t agree on that answer. Instead, we’ll focus on just a few quick tips that are generally agreed upon.
#1 – Invest Early and Often! As we’ve shown in last week’s post, there’s a big benefit to starting early. If you’re thinking you don’t have much money to put aside, remember, investing just $5 a day, for 45 years, has the potential to result in over $1 million in investments! Investing early is also an important tool to increase your financial net worth in the long-term.
#2 – Consider taking on a decent amount of investment risk at a young age by investing heavily in stocks/equities. There’s a very strong relationship between risk and reward when it comes to investment – the better average return you want, the more you have to be willing to risk significant losses when the economy is down. Many financial experts advise younger adults to take on more risk and invest more in equities, which have a historical (nominal) annual return of around 10%, because they have a longer investment horizon to both realize gains and to recover from losses. In fact, since the Great Depression, the stock market has never had a nominal negative return over any 20 year period. Note, however, this is nominal return, not real return, meaning it does not take into account inflation. There are other factors to consider as well, like job security, family members that may be financially dependent on you, what other assets you have to deal with emergency situations, and of course your general tolerance or willingness to take on risk.
#3 –Diversify! For those of you who might be thinking about investment for the first time, and may or may not have a confused look on your face, diversification is the idea that having a wide variety of investments will lower your risk of significant loss if any one of those investments falter. For instance, let’s say you’re looking to start investing with an initial $10,000. You’re also a big fan of your local fast food restaurant, and you want to invest in that company. If you put half of your investment money in that one company, and they soon after declare bankruptcy, you may have just lost $5000! If instead, that fast food restaurant is one of 50 different companies you invest in, at just $200 for each investment, you’ll only lose $200 if they go under, or just 2% of your initial investment. Many financial experts recommend investing in at least 25-30 different companies/investments, preferable with very few of those investments in the same industry. You may be intimidated by the idea of picking out stocks or bonds and diversifying on your own, or may be worried you simply don’t have the money to sufficiently diversify, but luckily you don’t have to. There are a number of investment vehicles that allow for proper diversification without you having to pick out individual investment, and often with an initial investment of less than $1000. Mutual funds and ETFs are just a couple of examples.
#4 – Don’t invest in what you don’t understand! Do some research or contact a trustworthy professional before investing in anything, and be sure you understand exactly what you’re doing with your money!
#5 – Don’t forget to put aside money in emergency savings. While it’s important to invest money for the future, don’t forget to hold some money in case of an emergency now. Some experts suggest saving as much as 3-6 months’ worth of expenses in a liquid account. What do we mean by liquid? Liquidity has to do with how easily something can be converted to cash, without a significant loss in value. For instance, a savings account is very liquid – if you needed money in the next couple days, you simply need to go to the bank and withdraw that money. Real estate, however, is very illiquid, it’s almost impossible to sell a house in just a couple days without taking a significant loss in value. Liquidity is essential when you’re putting aside money for a rainy day!
This concludes our two part series on saving and investing for retirement. If you have any questions, feel free to leave a comment or send me an email.
We hope you found this information helpful, and we hope to see you again before too long!