It’s so simple. Investing, I mean.
Don’t believe me? I don’t blame you.
I’ve been a financial writer for years and have tackled important topics like debt payoff, budgeting, and handling the emotional side of finances. But even with all that, there was one topic I would always avoid: investing. As far as I was concerned, investing was far above my proverbial paygrade.
You see, as a personal banker and someone with debt, I learned a lot about budgeting and saving and paying off debt. But I never got to investing. It seemed too complex, too intimidating. I knew I needed to do it, but figured I’d just be in the Roth IRA only game until or if I could ever learn how to handle the stock market.
I also wanted to make sure I only wrote about topics I confidently could help people with. And since there are people who work for years to get investing right, how could I ever know it well enough to help others? Unfortunately, in my efforts not to steer anyone wrong, I effectively made sure that I never learned a thing about this very important topic.
There’s no sense in talking about budgeting and paying off debt if you don’t also talk about how you can then grow your money. There’s no sense in stuffing your mattress with cash to protect it from stock market fluctuations. And there’s no sense in avoiding a topic because it seems scary. So, I did what I should have done a long time ago: I talked to a professional.
The best thing I learned? Investing is simple. I took pages of notes on how simple it was – because I had so many questions to prove that it wasn’t simple. But when I returned to my notes, guess what? They pointed to how simple investing really is.
It’s all about beating inflation. And anyone can do it.
It All Comes Down to Stocks and Bonds
Okay, first things first: what to invest in. While there are tons of different types of funds and investment vehicles out there, there are only two types of investment markets to get involved in:
Stocks and bonds.
Stocks are ownership in a company. Bonds are ownership of debt.
To participate in the stock market is to profit from productivity. (Companies produce, make more than they spend, shareholders profit.)
To participate in the bond market is to attempt to profit from the government or a company’s need to borrow money in order to become productive.
Since the real way to earn money from investing is to diversify, then putting your money into the stock market and the bond market ensures that you are mitigating the risk of one not working out for you. These two things will naturally fluctuate, so you want to have a hand in both.
And, of course, there’s the issue of cash. While you’re investing your money, you also want to make sure you’re not losing your money to interest and finance charges on debt.
By focusing on paying off debt, you’re making the time you end up spending money on interest every month get shorter. If you have credit card debt, you’re likely losing about 20% per year. If you have a mortgage, car loan, or student loans, you’re likely losing 5-10% or more per year. That’s a lot of money that could be growing instead of floating away!
The sooner you pay your debt off, the less money you’ll lose (especially to compound interest), the more money you’ll have in your pocket to save and invest.
Pay off debt so you can build your cash flow and stop losing money to high interest rates. Invest in the stock market. Invest in the bond market. This is a winning investment strategy.
Diversify Your Funds. Diversify Your Timing.
The concept mentioned above (of putting money into the stock and bond market at the same time) is the concept of diversifying your funds. Diversifying your funds allows you to ride the natural fluctuations of the stock market relatively unscathed.
This means you don’t want to put all of your stock investments into one company and you don’t want to only invest in stocks or only invest in bonds (instead of both). By spreading your money across multiple companies and multiple markets, you’re ensuring that you don’t lose your money if the company you’re investing in faces a huge loss (anyone remember Enron?).
A really easy way to diversify is to invest in total market index mutual funds: funds that are made up of stocks or bonds. But you don’t want to just diversify your money, you should also diversify your timing through dollar cost averaging.
When it comes to investing, timing is one of your biggest risks. You can have your money growing for years, but a natural disaster or a scandal or a large correction in the market could cause your investments to take a big hit. If that big hit just happens to come at a time when you needed to access your money, you could be selling at a far lower value (or have trouble selling at all). But if a big hit like this comes long before you need your money, continue to make regular investments.
The principle of dollar cost averaging reduces the impact of unlucky timing (now and in the future) by exposing lucky breaks (now and in the future).
But there aren’t just large corrections. As new information emerges, stock value changes – and this is something that’s happening on a smaller scale all the time. That makes it practically impossible to know the best time to buy and the best time to sell. So the best thing you can do is buy in regular intervals while building your nest egg. And when you retire and need to use your savings, sell in regular intervals. That way you’re mitigating the timing risk just like you’re mitigating the investment risk.
Choose Your Own Adventure.
And now, how to actually put your money in the market. This is more of a “choose your own adventure” type of decision, based on what you need the most.
Do you want help? A planner can help you understand your whole financial picture, meaning how much you should dedicate to savings, debt payoff, and investments. A fee-only financial planner will help you develop that financial roadmap and choose investments. (Since they get the fee from you, they don’t accept or receive a commission from mutual funds and, therefore, are more likely to help you choose the fund that’s in your best interest).
Do you want to make your own portfolio (with or without the help of a planner)? You can try mutual funds like Vanguard or Fidelity and invest in them directly. Or you can go with a robo-advisor like Betterment or Wealthfront. Robo-advisors have an algorithm that chooses a fund for you based on your level of investment and tolerance for risk.
In the end, you should choose whatever strategy makes the most sense to you. You never have to be locked into one of these for all of time, in fact, you could even mix and match!
All You Need to Do Is Beat Inflation
When you’re investing money, what you really want to do is beat inflation. In other words, cash sitting in a checking account for decades will buy less in the future than it can buy now, since inflation lowers the value of a dollar. If you can earn enough to outpace what you’d lose in inflation, then you’ll have a successful investment strategy.
A lot of people think of investing as a way to get rich quick, but that’s not realistic or sustainable. Can it happen? Sure, for a lucky few. Is it common? No. If it was, we’d all be getting rich through investments!
At the end of the day, so many factors impact the value of stock that only a person on the inside can say whether a stock is worth more or less than the market. On top of that, so many things can impact the overall health of the market that it’s not possible to figure out the perfect time to buy and sell.
Put simply, don’t try to exploit the market, lest you become the exploited.
Pay off your debt so you stop losing money. Diversify your funds and your risk of bad timing through dollar cost averaging so you can mitigate risk. And keep up this investment strategy for years to come so you can continue to beat inflation. Choose investment strategies that keep your fees at a minimum so you don’t lose your profit to fees every month, every year.
Pay off debt, save up cash in an emergency fund (so you’re less likely to have to sell investments to pay for an emergency expense – or less likely to accrue debt to pay for an emergency expense), diversify your investments. It’s that simple. Rinse and repeat and you’ll have an investment strategy that spells a positive financial future.
Image Credit: Annie Spratt