Investing often gets pushed to the back of the line when it comes to financial priorities. If you’re young, retirement might seem incredibly far off. You can figure out how to start investing later and make up for lost time when you make more money, right?
The truth is you need to start now. Luckily, there are some easy ways to do so without sacrificing or making your life harder. Here’s a four-step plan to start investing that hopefully will leave you with a well-funded investment account with minimal pain or effort.
1. Know the math
Before you prioritize investing, you should understand the how and why. Investing for retirement is a long haul, so it helps to do the math up front to see what it will take to reach your goal.
The biggest reason you need to start now: compounding interest. This means that the more money you have invested, the greater rate that money grows at. That’s because with investments, you typically re-invest any returns you earn on the original amount. This way you earn a return not only on your original investment, but also on any returns you earn over time.
Let’s say you start investing $6,000 per year at age 25. You expect a 6% annual return on your investment until you retire at age 65. Based on the math, you’ll have $984,286 after 40 years.
But what if you wait until age 35 to start investing? You’ll still get a 6% annual return, but you’ll have invested your money for 10 years less. In this case, you’ll only have $502,810 when you retire at age 65. That’s $481,000 less!
The lesson of compound interest is simple: the earlier you start, the more you advantage you’ll get out of it.
2. Automate your savings
So maybe you don’t have $5,000 to invest right now. That’s okay. You don’t need $5,000 or $1,000 or any minimum to get started investing. You just need to get started. So how do you do that?
The first step: start small, and start automating.
You might have other bills and student loans to pay, but don’t let that stop you. The key is to simply start investing and developing the habit. Again, start as small as you need to in order to avoid putting it off any longer.
1. Figure out how much you can afford to invest. Maybe it’s 1% of your salary (which is much less than the common recommendation of 10%). Maybe it’s just $20 from each paycheck. Either way, start now and increase later.
2. Create a savings account and set up an automatic transfer to this account each payday. The key is to get the money out of your checking account before you even realize it’s there.
3. Move the money you’ve saved to an investment account. (More on that below)
Remember: you don’t have to know exactly how to start investing in order to start saving the money. You can always figure that part out later.
3. Put away half of your raises
For most workers, you’ll continue to earn higher increases in salary the longer you work. It’s tempting to take that money and “upgrade” your life with a bigger house, a new car, and other purchases. This isn’t always the best idea for a few reasons.
First, while studies suggest that having more money can make us happier, that’s typically true only up to a certain point. A 2018 study by Nature Human Behaviour found that that a salary between $60,000 and $75,000 is the sweet spot where money does make us happier. Above that amount, money has little effect on happiness.
So what should you actually do with the raises you earn? Invest half. This will do two key things.
First, it will increase how much you can save. Saving just 10% of your income likely isn’t enough. An analysis by a financial blogger Michael Kitces proves the power of saving half your raises rather than saving just 10%. In this example, saving 50% of your raises nearly triples your retirement savings compared to saving 10%.
Second, the above example also notes the importance of avoiding lifestyle inflation, which is the tendency to spend more when you earn more. This in turns leads to a life where you need more money to live. Not only does lifestyle inflation result in less money invested, it also means you’ll need more money to retire.
Think about it. If you’re accustomed to living on $50,000 per year instead of $100,000 per year, your retirement fund only needs to be half the size. Keep in mind that it’s very difficult to revert to a lower standard of living once you’ve spent more on day-to-day life.
Putting away half of your raises into investments means you’ll save a lot while making fewer sacrifices.
4. Make investing simple
One of the most commonly asked questions is “What should I invest in?” Most people get really bogged down at this step, but they shouldn’t.
It’s not always true that you need to spend a lot of time studying and researching which stocks, funds, and bonds to invest in. In fact, you might be better off not doing this. Today there are several simple options for investments that actually offer better returns than if you attempt to actively manage your portfolio.
One option is investing directly in index funds. For years, the S&P 500 index fund has performed better than mutual funds. The Motley Fool said, “Less than 20% of actively managed diversified large-cap mutual funds (in plain English: big funds managed by guys and gals in fancy suits) have outperformed the S&P 500 over the last 10 years.”
If you’re looking to invest in index funds, opening an account with a broker like E-Trade is an easy option. E-Trade offers a good balance between low prices per trade along with other tools and technology that make investing in funds easy.
Other options, such as Betterment, make investing for retirement even simpler. Betterment does most of the boring and complex stuff for you in exchange for a small fee. Betterment basically automates your investments and will divide your money into stocks and bonds based on your risk tolerance and other preferences that you provide to them.
Betterment also handles a couple of tricky details called portfolio rebalancing and tax loss harvesting. While these concepts are a bit complex to explain in a short article, Betterment says your portfolio could improve by about 0.77% annually by using both of these strategies.
Services similar to Betterment, such as Wealthfront and Personal Capital will let you invest in a similar way. Both minimize the time you need to spend while taking advantage of return maximizing strategies like tax optimization.
Before you start investing for retirement, be sure to look at tax-preferred investments first, too. These include IRAs and 401(k)s from your employer, which might include matching funds—which are basically free money.
In addition to more traditional approaches, new companies trying to change the way we invest.
Acorns helps you save little by little using spare change from your purchases. Their service rounds up to the next dollar and places the change in an account, making small yet repeated investments.
If you’re looking to diversify from the stock market, LendingClub is an interesting alternative. Through LendingClub, which facilitates peer-to-peer lending, you can fund loans to regular people looking to borrow money. Returns on your investment are 5% on average but vary based on how risky of an investment you’re willing to consider.
No matter where you are with investing, just remember: start now, and you’ll have much more to be thankful for later.
Want to get started investing?Here are the top investing options for 2018!
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