You’ve probably heard that investing is key to building wealth, but for many young people, it’s not a top priority. However, the earlier you start investing, the more time your money has to work for you, which is why learning how to invest at an early age can help you achieve long-term goals.
Young investors have the great advantage of a longer time horizon to grow their investments. In this article, we’ll break down some simple advice for young investors from financial professionals, so you can put your money to work sooner.
- With the power of compound interest, you can grow your money exponentially.
- Set specific financial goals and have a set time period so you can make better investing decisions.
- Consider making consistent contributions to a diversified tax-advantaged retirement account.
- Avoid making investment decisions based on emotions such as fear or greed. Instead, follow a preset strategy.
Why Should You Invest When You’re Young?
When you’re young, you may not prioritize making an investing strategy for long-term goals. But the earlier you start investing, the more likely you are to be successful in reaching your goals.
Investing earlier is key to getting the most out of the power of compound interest. Essentially, the money you invest will earn a return that is added to your investment. With a subsequently larger amount, you earn a larger return, and so on. In this way, your earnings grow at an increasingly faster rate.
Imagine you started investing $100 per month when you were 20 and earned an annual rate of return of 8%. With compounding, by the time you turned 60, your account would be worth more than $310,000, but you would have only invested $48,000. If you had started that same investing strategy at age 30, you would have only about $136,000 at age 60, which is less than half of what you would have if you’d started at 20.
Investing from a young age also helps you combat inflation. Over time, the value of money decreases because of the increase in the prices of goods and services. For example, from April 2021 to April 2022, the cost of goods and services rose by 8.3%. If your money didn’t grow by that amount, then you lost spending power. Over several decades, inflation can wipe out a significant amount of your money’s value.
If your money grows at a faster rate than inflation, then you can prevent inflation-related losses.
Tips for Young Investors
Many young investors who recognize the value of investing may wonder how to get started. Here are seven tips from two financial experts.
Set Investment Goals
Every investing journey should start with setting specific financial goals. You then can work back from your goal to calculate how much you need to save each month to achieve it. Having a specific investment goal and investing horizon also helps you determine your level of risk tolerance. That helps you choose your investments.
“For example, retirement savings that have a time horizon of 10, 15, or more than 20 years can benefit from additional risk by investing in the stock market and riding out periods of volatility,” Kyle McBrien, a financial planner at Betterment, told The Balance in an email. “On the other hand, if you are saving for something more short- or medium-term, such as a new car or home, then those funds should be in a lower-risk portfolio since there is less time to recover losses.”
One common investing goal is saving for retirement. By starting when you’re young, you can afford to take a more aggressive approach with your portfolio. Investors near retirement age would want to be more conservative so they don’t risk losing their retirement money.
Start With Tax-Advantaged Retirement Accounts
Investors can see significant benefits with a tax-advantaged retirement account such as an IRA or 401(k). These accounts offer tax advantages either with deductible contributions with traditional plans, or tax-free withdrawals on earnings in retirement years with Roth plans.
A 401(k) plan may be offered through your employer. You can open a traditional or Roth IRA on your own.
Take Advantage of Matching Funds
Many employers offer matching contributions in their 401(k) plan or another employer-sponsored retirement plan. For each dollar you contribute, your employer will match your contribution up to a certain percentage of your compensation.
“That means for every dollar placed in retirement savings, an employer will contribute a small matching percentage for free,” Jordan Grumet, founder of Earn and Invest and author of “Taking Stock,” told The Balance in an email. “This can often come to thousands of dollars a year.”
Your employer match represents a 100% return on your investment. Aim to contribute at least enough to take advantage of the full match so you’re not leaving “free money on the table.”
Diversify Your Portfolio
Diversification is one of the most important principles of long-term investing. When you diversify, you spread your risk over several investment types. That way, if one of your investments suffers losses, it does not have as significant of an impact on your portfolio as it would if it were your only investment.
You can diversify your portfolio in two ways: between assets classes and within an asset class. When you diversify between asset classes, you spread your money across different asset types, including stocks, bonds, and more. When you diversify within an asset class, you invest in different assets within that asset class. For example, rather than investing in just one stock, you would invest in several.
One way to diversify is by using mutual funds or exchange-traded funds (ETFs). These investment vehicles allow you to gain exposure to many assets within a single investment.
Focus on Consistent Contributions
Think of long-term investing as making regular contributions, not necessarily contributing a lump-sum of money.
“Often, young people hold onto money looking for the perfect time to take the plunge and buy-in,” Grumet said. “This is called ‘timing the market’ and is often impossible to do. …For long-term investors, time in the market leads to greater returns than waiting for the exact perfect time to invest.”
The best way to ensure long-term investing success is to set up an automatic monthly contribution to your investment account, regardless of market conditions.
Watch Out for Fees
If you’re building an investment portfolio, you may be subject to fees, including expense ratios for mutual funds and ETFs. Fees are often part of investing, but aim to choose assets with lower fees so they don’t affect your profits.
Remember, the money you pay in fees each year is growth you aren’t seeing in your investment account. If you earn an 8% return on your investments but pay a 1% fee, then you only saw a return of 7%. Over many decades, those fees can add up to significant amounts.
Control Your Emotions
Volatility in the stock market is inevitable, and it’s easy to panic when you see your portfolio suffering rapid losses. To help, remove the temptation to adjust your portfolio based on market performance. McBrien recommends limiting how much you check on your portfolio’s progress to help you avoid the temptation to make adjustments based on emotional reactions of short-term movements. You might consider removing your investment apps.
“The market is going to move all the time,” McBrien said. “Looking every day will not only drive you crazy, but you may lose sight of the big picture.”
Focus on a long-term investment strategy that’s appropriate for your time horizon, and have a predetermined plan for how to respond to market changes.
The Bottom Line
The younger you start investing, the longer time you’ll have to meet your long-term goals. When you start earlier, your money will have more time to grow and compound. While there is a lot to learn about investing, it doesn’t have to be complicated. You can use these tips as a foundation to get started.
Frequently Asked Questions (FAQs)
How much will I have if I invest $100 a month?
The amount you can earn by investing $100 per month depends primarily on how you invest it. Remember that the longer your time horizon, the more aggressive you can afford to be with your portfolio and potentially earn more gains. The average long-term stock market return is about 10% (or 6% to 7% when you adjust for inflation).
Should I put my savings in stocks?
Stocks are popular ways to grow wealth, but they may not be right for every investing strategy because they carry the risk of losses. Stock investing may be good for long-term financial goals. For your emergency savings and shorter-term goals, consider a lower-risk alternative such as bonds.
What is a good first investment?
Many people start investing for the first time in their workplace retirement plans, like 401(k)s. Consider a mutual fund or ETF as a first investment because they can help improve diversity. You may want to use a robo-advisor that automatically adjusts your portfolio toward your preset allocations.
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