Editor's note: This is a five-part series developed from Kiplinger's most tried-and-true principles. It has helped thousands to reach enduring financial success.
Investing offers the best means to achieve your long-term financial goals. But any discussion of investing must begin with this simple truth: Investing requires taking risks. Your investment success depends in part on your ability to control those risks without passing up reasonable returns.
Your task is to create a plan that suits you and stick with it. You can achieve this goal regardless of your current style of saving and investing. If you don’t want to spend a lot of time on your finances, you should create a plan that doesn’t require a lot of time. There are lots of successful investors who carefully select the assets in their portfolios so that they need to spend only a few hours each year monitoring performance. Other investors prefer to pay close attention to what’s happening with their money.
Whichever description fits you, you can accumulate substantial sums of money by applying the following five keys to investment success. Note that these are keys, not “secrets.” There really aren’t any investment secrets. The methods employed by successful investors are well known.
THE FIVE KEYS
||Key # 1: Make Investing a Habit|
||Key # 2: Set Exciting Goals|
|Key #3: Avoid Unnecessary Risks|
|Key #4: Keep Time on Your Side|
||Key #5: Diversify|
For most people with a small amount to start with, the best chance to acquire measurable wealth lies in developing the habit of adding to your investments regularly and putting the money where it can do the most for you.
The rewards can be considerable. Suppose you take $5,000 and put it in a savings account, where it earns a nice, safe 2.16% interest. Twenty years later you reclaim your deposit and discover that it has grown to $7,666 and change. Not bad, but you can do better. Meanwhile, your brother-in-law puts $5,000 in one-year certificates of deposit (CDs) at the same bank, with instructions to roll over the proceeds into a new certificate every 12 months.
In addition, every month he buys another CD for $100 and issues the same instructions. Over 20 years he earns an average of 3.44% interest. His nest egg: more than $44,000. That’s a lot better, but it’s not going to finance a worry-free retirement. Suppose your goal is a lot loftier than that: You’d like to have a nest egg of $250,000. You’ve got 20 years to get there and $5,000 to start. You’re willing to investigate investment alternatives that should boost your return above what you’d earn in a bank account. What’s a reasonable return to plan on, and how much will you have to contribute along the way?
Since 1926, the stocks of large companies have produced an average annual return of more than 10%. (Remember, that includes such lows as the Great Depression, Black Monday in 1987 and the stock slide that followed September 11.) At 10%, with $5,000 to start, you’ll reach your $250,000 goal if you contribute $279 a month to your investment account. With an 11% return, $235 a month will get you your quarter-million in 20 years. Less-risky plans can also work wonders. Starting from zero, putting just $50 a month into an investment that pays a compounded average annual total return of 11% for 20 years will get you a nest egg of almost $43,700. Stick to the plan for 30 years and you’ll have more than $141,500.
Another possibility is to start small and gradually increase your monthly investment as your income grows. Assume you earn an average of 10% per year. Put $50 a month into your account for five years, raise it to $100 a month for the next five, $200 a month for years 11 through 15 and $300 a month for years 16 through 20. Then you’ll have more than $87,600. Boost your monthly amount to $400 for years 21 through 25 and your fund will grow to more than $175,400.
These examples are simplified, of course, because they don’t take taxes, commissions or fees into account. But the point is this: Making investing a habit is a key to making investing a success.