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How to Start Investing

How to Start Investing

Angela Colley — Building Blocks

Original image by Eli Miller

Original image by Eli Miller

Here’s some advice from the future: You’re going to need more money than you think. Child care, rising interest rates, booming housing markets, layoffs, health care—all these things tend to come as costly surprises.

Sure, living frugally and starting an emergency fund are solid practices, but they can only take you so far. And a lot is riding on what you do with all that money you’re saving: If you stash your extra cash in a change jar, under your mattress, or even in a savings account, it likely won’t keep up with inflation, meaning it could actually lose value over time.

To grow your wealth and set yourself up for a comfortable life, investing is key. Yes, they come with some risks, but over time many investments return a good profit to help you build that future nest egg. Then there is the miracle that is compound interest. Want proof? Here’s how saving and investment options stack up:

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Your Investment Options

A big part of many people’s hesitancy to get in on investments is the (very) outdated assumption that this means you must be actively picking stocks, backing small businesses, or forking over tons of cash for real estate. Do not go down any of these paths just yet, unless you are 1,000 percent confident that your cousin’s pizza parlor is going to become a national chain one day, or that super-woke publishing company with the recent IPO will actually exist in two years, or that dowdy apartment building is soon to be filled with laidback gentrifiers who don’t really care that the plumbing only kinda works.

The other, perhaps even more common, assumption about investing is that it’s only for people who have a ton of moolah already.

Both of these notions obscure the truth, which is that now there are much safer and cheaper investment vehicles out there. Instead of going it alone, hoping your future doesn’t depend on a secret pizza sauce recipe or crumbling rental house, novices can investigate a variety of investment funds, which means your money is pooled with other investors’ to purchase shares in a spectrum of financial options. A spike in online brokerages over the past 20 years means that there’s a bevy of options, driving down fees and minimums.

Here’s the big three:

Mutual funds

Mutual funds are a mix of stocks (higher risk), bonds (lower risk), and other assets chosen by a fund manager. Mutual funds can be a good bet because you can buy into a diversified portfolio, weighted toward goals and timelines that are meaningful to you, rather than putting all of your nest egg into a tiny basket of stocks you’ve hand-picked. But watch out for investment and service fees. Depending on the firm, those fees could eat in excess of 1 percent of your invested assets annually.

Index funds

An index fund is a type of mutual fund. Rather than a standard mix of investments, though, a portfolio tracks a market like Standard & Poor’s 500 Index. Many experts—like Warren Buffett—are in favor of index funds for a very good reason: They’re the no-fuss way to invest, even for beginners. Unlike a mutual fund where assets are actively managed and traded (either by a pro or by algorithm), an index fund simply buys and holds. With passive management, index funds also usually have lower fees, and by paying less, you could realize more gains over time.

Exchange-traded funds

Exchange-traded funds are similar to index and mutual funds. ETFs also contain either a bundle of stocks that all follow one market, or a mix of assets. But ETFs are different in one big way: You buy into an ETF as you would an individual stock, meaning you can get started for the cost of a single share (as opposed to a mutual or index fund minimum), the value of the ETF will fluctuate throughout the day, and you can buy or sell at any point in the trading day. Just be careful not to get too active—you incur a commission every time you trade an ETF. Another thing to watch for is the type of ETF. Those that track a single commodity or country will be more volatile than those that track a market index.

Deciding when (and how much) to invest

You can start investing at any time—but there is something to consider when planning your starting point: opportunity cost. Simply put, the longer you wait to invest, the less time your money will have to grow before you need it. While it’s important to meet other financial responsibilities—debt repayment, daily expenses, retirement savings (if some of your earnings already go toward a 401(k) or IRA, congratulations, you’re already an investor)—the sooner you can kick off an investment strategy, the better.

Start by considering the big three aspects of your financial life:

Goals

First, you should know what you’re investing for. Do you want to build a more comfortable retirement beyond your 401(k)? (Hint: You should always do this one.) Do you want to build extra funds to buy a house or help put your child through college? Knowing what you want to get out of wealth can help you decide how much—and in what—to invest now.

Timeline

Next, decide how much time you have to reach your goals. If you’re starting at 20 and want to own your own home by the time you’re 35, you have 15 years to sock away a down payment. (Please invite us to your housewarming—with that much lead time, your pad could be pretty epic.) More importantly, time also gives you a cushion to weather big dips in the market and still come out on top.

But let’s say teenaged Junior has recently announced plans to pursue a double-doctorate, and, supportive parent that you are, you realize he may need more cash on hand than a measly adjunct professor salary will provide. To help Junior avoid living out of a car while writing his thesis in five or 10 years’ time, you set some money aside now in a conservative portfolio that will be more likely to withstand short-term market shocks.

Risk tolerance

Before you dive in, you need to know how much risk you’re willing to take on. Your goals and the time you have to reach those goals are a big factor here, but you also have to consider your own personal risk tolerance.

High risk: You have enough cash to withstand a loss in the market. You’re young enough to ride out dips and recessions. You’re comfortable with taking bigger chances.

Medium risk: You’re young enough to withstand a few market dips. You can contribute some money, but can’t risk big losses. You’d rather see your money grow steadily over time.

Low risk: You’re close to the age where you need to reach your goals. (Say, retirement.) You’re counting on the money you have to be there for those goals.

If you’re not sure where you fall on the scale, many investment firms and financial advisers offer risk assessment. You can also try this online quiz from Rutgers University. Once you know your risk tolerance, goals, and timeline, you can build a solid investment plan.

 

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