Haven’t got the stomach for investing in the stock market? You are in good company. Less than half (48.8 percent) of Americans own stock, through their retirement accounts or directly in companies, according to the Federal Reserve’s 2013 Survey of Consumer Finances, a report that is conducted every three years. It continues a decline from 2007, when stock ownership was at its peak (53.2 percent).
Younger Americans seem particularly risk-averse: A recent Harris Poll showed 80 percent of millennials (ages 18 to 34) are not investing in stocks — partly because of limited resources, but also because of lack of knowledge and the perception that the market is the province of wealthy older men.
Their caution is understandable. This generation came of age during the 2008 stock market crash — obliterating $7 trillion in wealth — and subsequent Great Recession.
But especially for young people, who have time to ride out some ups and downs in the market, stocks should be a part of a savings strategy, providing a way to stay ahead of inflation and a key to building real wealth.
Baffled and nervous? Here’s how to start investing in stocks safely and simply.
1. Spread the risk
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Stocks are riskier than a savings account or certificate of deposit. But they also can deliver better returns.
Savvy investors balance the risk of owning stocks by purchasing other types of assets too. That way, “a sudden decline in one part of the market is offset by a corresponding rise in another,” says Forbes contributor Mitch Tuchman.
Build wealth by diversifying your assets. Each asset type serves a different purpose, balancing your risk. Nolo explains:
- Stocks help your portfolio grow.
- Bonds bring in income.
- Real estate provides both a hedge against inflation and a low “correlation” to stocks — in other words, its value may rise when stocks’ values fall.
- International investments provide growth and help maintain buying power in an increasingly globalized world.
- Cash gives you and your portfolio security and stability.
2. Manage your exposure to stocks
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Some investors use a rule of thumb to decide how much to invest in the stock market: Subtract your age from 100 and invest the remaining percentage in stocks. If you’re 40, for example, keep 60 percent of your investments in stocks and 40 percent in bonds. When you’re 60, have just 40 percent in stocks.
Today, many advisers and investors believe that rule is outdated. CNN Money says:
[W]ith Americans living longer and longer, many financial planners are now recommending that the rule should be closer to 110 or 120 minus your age. That’s because if you need to make your money last longer, you’ll need the extra growth that stocks can provide.
Try using CNN’s asset allocation calculator to fine-tune your exposure to the stock market.
3. Buy mutual funds
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Choosing individual stocks well requires more research than most of us are willing to do. Mutual funds that include many stocks can better balance the risk of owning stocks.
4. Use index funds
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Some experts say that all you really need for investing in stocks is an index fund. These instruments often have lower fees and better results than actively managed funds. Vanguard 500 Index Fund (VFINX), for example, is a basket of stocks that automatically tracks the performance of the stocks of 500 major American companies. It’s not magic, as the The Wall Street Journal explains:
The reason passive indexing does well is mundane but tried and true: Index funds feature diversification, minimal turnover and low expenses.
As we recently reported, Donald Trump would be about $10 billion richer than he is if he had simply put his money in index funds 30 years ago.
5. Don’t waste money on fees
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Don’t let fund management fees, portfolio management fees or trading fees eat up your capital. For most of us, these services just aren’t worth it. Vanguard’s S&P 500 Index Fund’s annual fee is “less than one-fifth of a percentage point,” according to The Economist, which adds: “That compares with the 1 to 2 points a year that investors can pay for active fund management, where the experts try to beat the index.” (See: “Mirror, Mirror on the Wall, What’s the Worst Fee of All?“)
If you’re in the market for an online broker, check out this guide on our Solutions Center to compare fees, minimum investments and services provided.
6. Rebalance yearly
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Suppose you decide to put 60 percent of your savings in the stock market. As time goes on, some of your investments will grow and others will grow less quickly or lose value. Your 60 percent stock allocation will change. Once a year you should adjust, or rebalance, your portfolio so it has the right balance of allocations again.
“Active rebalancing — selling gainers and using the cash to buy into parts of the portfolio out of favor — allows you to capture gains and snap up bargains in a stress-free, no-fear way,” writes Tuchman in Forbes.
7. Keep emotions out of investing
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One common rookie investor mistake is reacting emotionally to stock market ups and downs. If you pulled out of stocks after the 2008 crash, for example, you may have missed the gains from the recent bull market. Remember: You are in this for the long haul.
Euphoria and overconfidence are dangerous, too. Buying stock in a particular industry or sector that’s in the news can land you in trouble. By the time you’ve heard of a trend, it may well have peaked.
8. Stay the course
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The easiest way to grow a sizable retirement account is to start young and save and invest steadily and consistently. Says Kiplinger:
Over the long term, we think you can reasonably expect an average return of 7 percent to 9 percent per year on your investments. … You won’t make it every year, but that’s an achievable range if you plan your approach thoughtfully and stick to your plan.
9. Build in discipline
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To prevent yourself from revisiting decisions, put much of your investing program on autopilot or follow a routine:
- Have workplace retirement fund contributions deducted automatically from your paycheck.
- Schedule savings to be moved electronically into investment accounts.
- Rebalance your investment account annually.
“The research (and investor experience) supports a buy and hold, indexed approach to stocks — a straightforward discipline that the most inexperienced investor can employ,” writes Nancy Tengler, in the Arizona Republic.
10. Get every bit of your company’s 401(k) match
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If you are unsure if your employer matches 401(k) contributions, ask the human resources officer. If the company does match your savings, learn its maximum matching amount.
Suppose your employer matches your contributions to your 401(k) account dollar for dollar up to, say, a maximum of 4 percent of your $4,500 monthly salary. That’s $180 you can get free, each time you’re paid.
To earn the company’s match, you’d need to put $180 in the account, too, every month. That may not sound like much, but 12 monthly contributions of $180 is $2,160 a year.
11. Contribute as much as you can
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Matching your employer’s contribution is just a beginning for your retirement savings. For an idea how much to save, use a retirement savings calculator: Try Bloomberg’s, for example, or search online until you find one or two you like.
Set a rough goal for retirement savings and keep increasing your 401(k) contributions until you are putting away enough to reach that goal. The maximum the IRS allows you to save in a 401(k) in 2016 is $18,000. If you are 50 or older, you can contribute an additional $6,000.
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