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What is investing?
Investing is putting your money into something expecting a return on your money over time. It’s how your money makes money while you sleep. In fact, a vast majority of my own net-worth has come from investment gains.
Last year Warren Buffett made $1.5 million per hour on his investments without needing to trade any of his time for that money. And last year I made $45 dollars per hour on my investments, most of which I made on my phone.
As Ben Franklin famously said, “The money that money earns, earns money.” Have you ever seen those rich middle-aged dudes with white hair and loafers who look so chill when walking around the mall?
The reason they look so chill is that they have money-making money somewhere and they don’t have to think about it. They can enjoy life while they build wealth.
So how did I do it? Don’t worry I’ll show you below.
Two Popular Investing Myths
But first let me start by dispelling these two popular myths:
- investing isn’t complicated
- investing isn’t gambling
Wall Street has a way of trying to over-complicate investing so that you as a consumer get overwhelmed and feel like you have to end up paying a personal advisor (which in some cases can make sense) or that you have to pay high fees for the new trendy type of investments.
The goal of investing is to maximize your reward (the money that your money makes), while simultaneously minimizing your risk (the amount of money you could lose).
A lot of people don’t invest because they think it’s gambling and it’s true, some investments are. But those aren’t the ones you will be investing in. For example, I’ve heard people say that they are “investing” in lottery tickets, but when you have a 1 in 20 million chance of winning that’s gambling, not investing.
But about 50% of Americans still play the lottery and spend about $70 billion on a year on them. This nets out to the average American spending about $600 on lottery tickets per year. Just investing that money each instead at 7% compounding over 30 years, they’d have about $66,224 in their account. Sure, it’s not $200 million, but it’s the difference between investing and gambling.
Investing isn’t gambling because you can control the amount of risk that you take.
You can invest in literally anything you expect to go up in value over time, from art, to cryptocurrencies, to tax liens, the three most secure investments are stocks, bonds, and real estate.
The reason they are more secure and dependable is because they have a long proven track record, and there’s so much information on how to best invest in stocks bonds and real estate. Value is determined by supply and demand – the more people want something and the less there are, the higher the price will go.
How To Start Investing for Millennials (7 Steps)
1. Figure out how much you can invest
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!
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 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! 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.
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 a Roth IRA or a Traditional 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.
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.
Here is an asset allocation chart from my book, where you can see asset allocation recommendations by both age and years to retirement.
4. Pick what goes into your long term retirement investment accounts
Both the 401k and IRA are used to hold investments and are typically used to save for retirement – they are not investments themselves. This means you need to pick investment vehicles to go into them.
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.
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 the money.
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.
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 Personal Capital.
To learn more about my favorite money app, check out my Personal Capital review or click below.
Personal Capital Price: FREE With Personal Capital, you can see your net worth, analyze investments, and discover any hidden fees you weren’t aware of before – as well as set spending and saving goals.
That’s it! It took me some time to learn about investing and over time you will gain more confidence as you start investing. There is no substitute for doing your own research and asking others about their experiences.
If you follow the guidelines presented above you will be well on your way to building wealth and one day making work optional. To learn more about how to invest check out my bestselling book Financial Freedom: A Proven Path to All The Money You Will Ever Need.