Tips for the first-time investor
In a recent post regarding the survey of how people invest, the most glaring observation was that over 70 percent of respondents who have yet to experience a recession do not invest at all — not even a tentative first-time investor — nothing.
Since the survey didn't record the ages of respondents, it is fair to conclude that those who had not yet experienced a recession would be aged in their mid-20s.
Why doesn't this group of people invest? Several reasons were advanced in the comments and in other articles about the phenomenon. Some might feel they don't have enough money to invest while others might be afraid to invest. But whatever the reason, teaching about investing can help address some of these concerns and hopefully get people started on their way — and for young people, this is especially important because they stand to gain the most.
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So, what is it they need to learn?
You Must Invest
Look around you at anyone over 60 or 70. How are they living? Chances are you will see or know some who is barely scraping by, and others who are living well. What is the difference between them? More likely than not, the difference between those who live well and those who scrape by is that one group invested and the other did not. Which of those two futures do you want to have? There is only one way to get that future: You have to invest. And it doesn't have to be risky. We aren't talking Wolves of Wall Street.
1. The early bird truly catches the worm
Some may agree that it is wise to invest … but not right now. That is just foolish, and here is why: If you look at the chart below, you see that it shows the value of a $100 monthly investment yielding an average of 8 percent a year (the typical long-run yield on index funds):
If you delay investing for, say, five years, you might think all you will be missing is the first $9,300, i.e., your investment's value after five years. But you would be wrong, though — very wrong. The five years you will be foregoing are not the first five years, but the last five years. In other words, you'll be foregoing the last $21,000, which is the difference between the $60,000 value after 20 years and the $39,000 value. That's more than 50 percent of your investment's value after 15 years.
It's called the power of compounding — and it is a wonderful thing, but it needs time to work its magic. To get the full value of that magic, you have to start early.
Where do you get the money to invest, especially if you are still making “young money?” It has to come from spending less than you earn. It isn't a popular answer, but it's the only one that works. Far better to pull in your belt when you have a choice (now) than when you don't have a choice (later).
How Do You Get Started?
The strategy that has stood the test of time the best is to pay yourself first. What that means is you need to set aside the amount you decide to invest before you pay anything else, from rent to the cell phone bill. And here are some ways to do that:
- If you have a job with a matching 401(k) or similar retirement plan and the employer offers to match a certain portion of your contributions, start by contributing the maximum the employer will match. That is free money, and it will double the growth of your investment. Passing up that free money will end up costing you dearly over your years of investing.
- If you don't have an employer matching plan, consider opening an IRA. Most online brokerages offer those for free, with but a modest starting balance. If your employer offers online deposits for your paycheck, they usually will pay the amount you designate directly into your IRA — which is just another way to pay yourself first.
The link above discusses the basics and walks you through the process of opening a Roth IRA. It's a great resource with just about everything you need to know, including:
- The four steps to opening a Roth IRA
- The information you need to open an account
- How to evaluate a Roth IRA provider
One thing few people talk about, but which ended up being one of the best things my wife and I did, was simply to open up a savings account and dump all the unexpected monies we received into it. Everyone that I have spoken to confirms this, and you will be amazed at how much out-of-the-ordinary money you get. Just this week we received a $21 rebate from our insurance company because of some changes we made to our policy. In the past, that would simply have been spent without a second thought; but since we opened that special savings account, all those amounts automatically go into it.
At the end of each year, that year's “bonuses” were put into one of our IRAs. Over time, those little breadcrumbs add up to surprising amounts. We also observed a funny phenomenon: Once you start looking for breadcrumbs, they increase. You see more opportunities to score those mini-bonuses when you are always on the lookout for them.
Stay the Course
Every successful investor will tell you the same thing: Successful investing is boring. Success comes from patience, diligence and perseverance more than anything else. Brilliance and aggressiveness are more likely to cost you than add anything to your bottom line. Even Warren Buffett famously admitted that the secret of his success is that he mastered “the art of doing nothing,” his phrase for doing simple things and being patient. In short, let compounding do its work by giving it time and staying out of its way.
As you can see from the chart above, even if you start with small investments to begin with, they will grow to a sizable sum if you stay the course. Investing is not rocket science; it amounts to paying yourself first every month, even if you have to do without some small thing in the short term.