First, you need to figure out how much you can invest each paycheck, whether it is investing $100 or $10. Every little bit adds up and you should always try to invest as much as you can. Remember, the more money you invest the more your money will be working for you
1. Figure out how much you can invest
Many people make the mistake of trying to save what’s left over each month and then never end up investing. You should always try to “pay yourself first,” meaning, you should invest your money before you spend any of it.
This is easy to do with automation — you can put money into your 401(k) account or an IRA account automatically before or shortly after it hits your bank account. (Recommendation: Betterment)
So how much money should you be investing?
The percentage of your income that you are investing is known as your savings rate. The higher your savings rate the faster you will be able to reach early retirement. There is a direct correlation between your savings rate and the numbers of years it will take you to retire.
If you save 3.2% of your income like the average Millennial then you’ll likely never been able to retire, but if you can increase that to 20% you can retire in 25 years or less, and if you can increase it to 50% then you could retire in 15 years or less!
Clearly the higher your savings rate the faster you will be able to “retire” and reach financial freedom. A good place to start is with 10% of your salary and then try to increase that amount by 1% every 30 days.
2. Separate your short term investments from your long term investment strategies
After figuring out how much money you can save each month, the next step is to separate your short term investing and long term investing strategies. Don’t make the mistake of putting all of your investments into the same accounts.
Short Term Investments (5 years or sooner)
If you need any of your money in the next 5 years then you shouldn’t risk losing any of it! An example of money you might need in the next 5 years or less is a down payment on a home, education expenses, money for a car, or money to travel.
You might think that a savings account is a great place to put your money, but most savings accounts have an interest rate of less than 0.01%, so you actually losing money to inflation.
In fact, Americans lose over $50 billion in interest by keeping their short term savings in savings accounts with low -interest rates. Here’s where you should put your short term investments instead.
Online High Interest Savings Account
There is an incredible number of great online savings accounts with interest rates above 2%, so your money will at least keep up with inflation.
A few great online high-interest savings accounts are offered Discover Online Savings and CIT Bank MMA.
Certificate of Deposit Account (aka a CD ladder)
When you buy a certificate of deposit from a bank you can often lock in a rate above 2% and sometimes quite a bit higher.
The one catch is that you have to keep your money locked up for a defined period of time (anywhere from 6 months to a few years depending on the CD) and if you need to take your money out earlier then you would be subject to a small early withdrawal penalty. (Exception: CIT Bank 11mo No-Penalty CD)
However, an easy way to avoid locking up all of your money is to build what’s known as a CD ladder where you actually stagger the CDs that you open so they mature (meaning they end) at different dates in the future and then roll over into new CDs.
So you have some money in CDs that mature in 6 months, in 1 year, in 2 years, etc. Then you will always have money maturing if you need to get it out early.
Long Term Investments (5+ years into the future)
Your long term investments are any money that you will near in 10+ years in the future.
This is primarily going to be your retirement money so you want to maximize your return over the long term. This means you don’t want to put this money into a savings account. You want to invest it in a retirement account.
There are two types of retirement accounts — those offered by an employer and those that you need to sign up for yourself.
Employer retirement accounts primarily include the 401(k), 403(b), and 457(b) accounts depending on the type of place you work. Non-employer retirement accounts are known as IRAs (individual retirement accounts) and the typical types are the Traditional IRA, Roth IRA, SEP-IRA, and the Solo 401(k).
The differences between the Roth IRA and the Traditional IRA are that the Roth IRA money grows tax-free over time and you don’t have to pay taxes when you take the money out, whereas the Traditional IRA gets taxed at withdrawal, but you may be able to deduct the contribution from you taxes.
A Roth IRA is the best deal for young investors and will have significant tax advantages over time. There are many great places to open an IRA or a Roth IRA, my two favorites are Vanguard and Betterment since they have a lot of high-quality low-cost investment options. At Betterment, you can open an IRA for as little as $10.
No matter your investing acumen, Betterment offers a robust and easy to use platform to help you retire well.
3. Pick your level of risk
Unfortunately, because 401K plans are typically offered through an employer there are often limited investment options and high fees.
This means that it is very important to pick your 401K investments wisely. What I typically recommend for new 401K investors is to select a model portfolio based on the level of risk that you are comfortable taking.
This is known as your asset allocation, which is the percentage of stocks and bond you have in your investment portfolio.
A word of advice – if you are under the age of 35 and are starting to invest in a 401K it the best idea to invest in an aggressive growth portfolio, which is heavily weighted in stocks.
The typical asset allocation that makes sense for a Millennial is around 90% stocks/10% bonds. Once you hit 35 or even 40 it is best to adjust this allocation close to 80% stocks/10% bonds.
While an aggressive type portfolio will naturally fluctuate over time and has more “volatility,” this is nothing to get scared about because you are saving this money for the long term and over a 10+ year investing horizon you are going to make more money investing in stocks than in bonds.
For Millennials investing in the stock market as heavily as possible in 401k makes the most sense.
4. Pick what goes into your long term retirement investment accounts
After figuring out how much money you can save each month, the next step is to separate your short term investing and long term investing strategies.
There is literally an infinite number of choices when you start investing, but most of the simple ones are the best options.
For a new Roth IRA or Traditional IRA investor I typically recommend putting your investments into a target date retirement funds like the Vanguard 2050 fund (which is what I have my own Roth IRA invested in).
The target date fund naturally adjusts your investment allocation between stocks and bonds as you get closer to retirement so you don’t have to do much (except keep putting money in!).
As you become a more sophisticated investor the target date fund might not make as much sense to you since you can get smaller incremental investment returns investing your IRA in a mixture of low cost index funds – which have lower fees over the long term.
But for the new investor, there aren’t really many better choices than a target date retirement fund with an aggressive 90+% stock allocation. While some investors believe target date retirement funds are too simple, I also know a number of top financial and private investment professionals who invest their own money in them.
Blooom helps you optimize your 401(k), which is most people’s largest retirement account. It works with almost any account no matter who you work for.
5. Invest as much money as you can in tax-advantaged accounts
Taxes are one of the biggest drains on your investment returns so you want to minimize your taxes as much as possible.
For most new investors the number one goal is to invest as much money as you can into tax-advantaged accounts where your money can grow tax-free over a long period of time.
There are two types of tax-advantaged accounts you need to know about – 401Ks and IRAs (individual retirement accounts). For Millennials the most money you can put into them each year is $19,000 in a 401K and $6,000 into an IRA (so you can save $25,000 a year in tax advantaged accounts). Do this first before investing in anything else.
If you work at a company that offers a 401K plan invest as much as you can in the plan up to the $18,000 maximum or at least invest as much as you can to get an employer match. You are not taxed on any of the money that you put into your 401K, but you are taxed when you withdraw money from your 401K.
Most companies offer an employee match, which is essentially an employer contribution that matches your own contribution up to a certain percentage of your income (3%-5% is average). This is essentially free money and an incredible benefit if you have it. At least invest the maximum required to get your employer match.
6. Invest early, often, and as much as you can
As a Millennial, I knew that even though my new job wasn’t paying me a lot of money, I did have one thing on my side: time.
Time is the most essential element of investing because it takes time for money to grow and the more time you have the more opportunity your money has to grow due to compounding interest.
Albert Einstein even called compounding interest “the most powerful force in the universe” and “the greatest mathematical discovery of all time.”
Here is the way that it works in simple terms — imagine you invest $10.00 and it grows 10% over one year so you now have $11.00 and the next year it grows 10% so then you have $12.10.
You keep making more and more money on your growing interest and when you add to that pool of money it further compounds over time and you are able to make money on your money.
It is this pretty simple idea that makes investing so powerful over time. Here’s a simple example of how compounding works — the more and earlier you invest, the faster your money can grow.
How Compounding Works
So how do you get compounding interest to start working for you?
Whether you have $5 or $5,000 dollars the first rule of investing is to you need to start investing your money. If you don’t get started then you can’t make money and your money can’t make money.
It’s actually pretty crazy how many people just keep all of their money in a savings account because they are so afraid of losing money in the stock market, but the reality is that over any 10+ year period in history the stock market is likely going to give you positive returns on your money if you invest simply in a stock market index fund.
I know all of the excuses people make to not start investing because I’ve used them all myself. You don’t have enough money to invest, you don’t know anything about the stock market, you are worried about losing money…
All of these excuses have likely already cost you thousands or hundreds of thousands of dollars in potential earnings over your lifetime. It’s literally like you are leaving money on the table and cutting yourself short.
I am guessing that because you are reading this blog you are interested in making money and building wealth — but if you aren’t investing then it likely won’t happen. Seriously, investing money is the surest path to building wealth.
7. Track your investments & net-worth with this free app
When you start investing one of the easiest ways to track your money is using a free investment tracker.
My favorite and the one I’ve been personally using for the past 5 years is M1 Smart Money Management. The M1 app gives you choice and control of how you want to invest, borrow, and spend your money—with available high-yield checking and low borrowing rates.
With their next-generation, intelligent financial tools, you can do exactly what you want with your investing, borrowing, and spending. The cherry on top? It’s free. It got more than 27,000 ratings and (20,000 Star ratings) on App Store and Play Store.
Ok. Here’s why i say you need the M1 App:
You can build your own investing strategy and keep it in balance automatically. For free. It’s made for self-directed investors. How much do you want to invest? What’s your time horizon? Risk tolerance?
M1’s easy-to-use tools enable you to develop an investing strategy that’s right for you, and our powerful automation helps you implement and maintain it.
You can set up an individual taxable account for your general investing needs. You can also establish a joint account with a relative, spouse, or domestic partner.
M1 uses a Pie-based interface to make building and managing a portfolio easier and more intuitive than ever. You choose from more than 6,000 stocks and funds to build Custom Pies or select from nearly 100 Expert Pies, designed to meet different financial goals and investment objectives.
What are the risks?
Investing can be one of the best ways to build wealth for the long-term, but here are some things to keep in mind when creating your portfolio:
- Business risk
Returns from any investment requires that the company stays in business.
- Volatility risk
Stock prices may fluctuate up or down based on factors inside the company, political events, or market events.
- Interest rate risk
Interest rate changes can affect the business operations, profits, and losses of companies in many sectors of the market.
- Liquidity risk
The potential lack of market availability of an investment you want to buy or sell quickly can reduce potential gains but increase potential losses.
- Inflation risk
Inflation reduces purchasing power and may erode returns for people investing in cash equivalents.
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Use margin to access a portfolio line of credit and borrow up to 35% of your portfolio’s value, in less than 10 seconds. No paperwork and no payment schedule. So how does M1 Borrow stack up? You can borrow money any time at 2% or 3.5%—some of the lowest interest rates on the market.
Compare to other lending options:
|Credit card debt||17.28%|
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Borrow for whatever you need
You can stay invested and keep your portfolio on track while you tap into M1 Borrow for things like:
- Paying down a HELOC or home equity loan
- Eliminating high-interest student loans, credit card debt, or auto loans
- Paying for large expenses like your dream wedding, your child’s tuition payments, or your new business venture
- Adding leverage to your portfolio and increasing your potential for higher returns
- Covering unforeseen expenses in lieu of an emergency fund
Plus, if you itemize your deductions on your tax return, the interest you pay may be tax-deductible.
What are the risks?
M1 Finance gives you unmatched flexibility with how you manage your money, but here are some things to keep in mind when taking out a loan with M1 Borrow:
The M1 Borrow base rate is variable and tracks the Federal Funds Rate. When the Federal Funds Rate goes up or down, the M1 Borrow base rate will follow.
If your portfolio value declines, your account can trigger a maintenance call and we may need to sell a portion of your portfolio to cover the loan.
If you use proceeds from an M1 Borrow loan to buy additional securities in your M1 Finance portfolio, the potential losses in your portfolio will by magnified.
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The material in this article is for educational purposes and is not intended to be relied upon as a forecast, research, or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy.