Start Investing Wisely
It takes only a little seed money to become a smart, long-term investor.
Saving is good. Investing is better. If you save $100 a month and earn 0.95% annually (currently the highest yield for savings accounts, according to Bankrate.com), you’ll have more than $58,400 in 40 years, excluding taxes. If you invest the same amount and earn an 8% annual return, your total grows to about $324,180.
Your first experience with investing will likely be within a 401(k) or similar employer-sponsored retirement plan (see Free Money for Retirement). Those dollars are earmarked for the faraway future. So you can afford to take on risk and should consider putting your entire portfolio in stocks.
You might be wary of such advice, especially if you were paying attention during the bear market of 2007 to 2009, when Standard & Poor’s 500- stock index tumbled 55%. “But at the end of the day, the stock market will be your friend,” says Wendy Weaver, a financial planner with FBB Capital Partners, in Bethesda, Md. “You’ll stay ahead of inflation, which can eat away your buying power and your ability to be financially independent.” In fact, the S&P 500 has delivered a total return of more than 200% since its 2009 low.
Still, your exact stock allocation will depend on your comfort level. If you’d rather dial down risk, balance your investments with some bonds and cash.
Mutual funds or exchange-traded funds are the best ways to get into the stock market. A single investment can buy you a diversified portfolio at a relatively low cost. You need a brokerage account to purchase ETFs, which you buy and sell like individual stocks. (See Kiplinger's Model Portfolios for a wide range of diversified-portfolio options.)
Begin with basic investments, such as the index funds offered by your employer, if you’re investing in your 401(k). The plain-vanilla strategy of mirroring a broad market segment’s performance can help minimize surprises and give you a solid foundation. A target-date fund is another option: Choose the year you want to retire, and the fund’s managers select the mix of investments. As you age, the pros adjust the portfolio to the allocations considered appropriate for that time frame. A target-date fund may be the default investment in your 401(k).
Even the most patriotic investors will need to look overseas. “The U.S. is facing a lot of headwinds, from our debt to taxes to paying for social programs, whereas other countries have a lot of growth potential,” says Bob Gavlak, a financial planner with Strategic Wealth Partners, in Independence, Ohio. To get the best long-term returns, says Gavlak, international and emerging-markets stocks need to be part of your investments. We recommend that the majority of your assets stay home, with up to 70% of your portfolio in U.S. stocks. But send the rest abroad, putting up to 25% in international stocks and 5% to 10% in emerging-markets stocks.
Editor's note: This story was originally published in the June 2014 issue of Kiplinger's Personal Finance.