Learn How To Start Investing With These Five Simple Steps
Before you put any money in the stock market, set aside enough cash in an emergency fund to cover three to six months of essential living expenses and make sure you have health insurance.
To be a successful investor, start with your goals and evaluate your personal tolerance for risk.
Broad-based mutual funds and exchange-traded funds can form the foundation of your portfolio. Be sure to research fees and performance.
I'm in my late 20s with a good job and can finally save some money. I know that I should start investing but it's a little overwhelming. Where do I start?
I understand that investing can seem extremely overwhelming at first. However, I believe it's one of the best ways to build your financial security, so I applaud your interest in getting started. The good news about investing is that you don't have to understand all the intricacies to get started. The trick is to break it down into simple steps.
But before you put any money in the market, I suggest that you cover a couple of financial bases. First, set aside enough cash in an emergency fund to cover three to six months of essential living expenses. Next, make sure you have health insurance (absolutely essential!) as well as car insurance and renters or homeowners insurance, depending on whether you rent or own a home.
With this protective cushion in place, you're ready to explore investing. Here are five steps to help you get going. You can build on them as you become more comfortable.
1) Set some goals
Investing is about growing your money, but to do that effectively, you have to know what you want to accomplish. So do some thinking. Lay out your short-, medium- and long-term goals. Write them down, give them a time frame, and put a dollar figure beside each. For instance, a short-term goal might be a vacation. A medium-term goal could be a down payment on a house. To me, your number one long-term goal should be retirement.
Having tangible goals is a good motivation to keep saving and investing. It also helps you understand how to invest for the time frame attached to each goal.
2) Check in with your personal risk-o-meter
Risk is the scary part of investing, and there’s no way to avoid it completely. So it’s important to think about how much risk you're taking on with each investment. It's also important to understand that risk and return go hand-in-hand: often the greater the potential return, the greater the risk. Stocks are on the high end of the risk-o-meter with small company stocks often more volatile than large company stocks and emerging markets stocks more volatile than domestic stocks; fixed income investments such as bonds are in the middle; cash investments like CDs are on the low end.
Two things will determine how much risk or uncertainty you can handle: your personal feelings and your time frame. If market ups and downs are going to give you a constant upset stomach, you can take a more conservative approach. If you're able to live with market fluctuations and think long-term, you can be more aggressive.
Also look at how long you plan to keep your money invested. The longer your time frame, the longer you have to recoup any short-term losses that might occur with normal market changes. In general, if you'll need your money in:
- Three years or less—Avoid stocks. They're just too volatile. Consider cash investments like money market funds or CDs instead.
- Three to five years—It may be appropriate to invest as much as 50-60 percent in stocks, with the balance in bonds or cash equivalents.
- Five to 10 years or longer—You can add more stocks to the mix.
3) Open the right accounts
With your goals in mind, make sure you have the right accounts. In addition to a checking account, you should consider having:
- A tax-advantaged retirement account, which could be an employer-sponsored account such as a 401(k), an IRA, or both. (At your age, consider a Roth 401(k) or Roth IRA, both of which can potentially provide tax-free withdrawals.) To me, these types of retirement accounts are the most important because saving for retirement should be a top priority. And the sooner you start, the less you'll likely have to put in each year. If you begin now when you’re in your 20s, and save just 10 percent of your income a year for your entire working life, you’re preparing yourself for a comfortable retirement. If you wait until you’re older to start, you may have to sock away a larger percentage.
- A savings or money market account—This is where to stash your emergency fund and any money you'll need in the next three years.
- A taxable brokerage account—This can be appropriate for medium- and long-term goals.
4) Start with broad-based investments
It's easy to get hung up on choosing investments—there are so many. But fortunately, broad-based mutual funds and exchange-traded funds (which pool the money of many investors to purchase a variety of securities) give you a simple way to begin. Funds help you automatically invest in a variety of stocks and bonds so you don't put all your money in one investment (which is much riskier than owning several investments). Do a bit of research on performance and fees. There are plenty of reliable websites that give details of particular funds and let you comparison shop. You might start with your brokerage company's website.
5) Put things on automatic
Once you're set up, put as much as you can on automatic—savings deposits, retirement contributions, even automatic monthly investments into a fund. The less you have to do, the less overwhelming it will be, and the more likely you are to stick with it.
That said, you do want to stay involved. Check your portfolio at least once or twice a year to evaluate performance and to make sure your investments still match your goals and feelings about risk. And try to keep a long-term view. You're young. You have plenty of time to ride out market swings and reap potential returns. And once you have some money in the market, you may be inspired to learn more. Investing can actually be fun as well as financially rewarding!
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