If you’re an investor in your 20s or 30s, you may not feel as flush as your parents, but you have plenty of time to catch up. The trick to becoming financially secure is to become a smart consumer and get an early start investing. Here are some ways to get you started:
You’ll have more cash to invest if you pay attention to the price of cell-phone plans, insurance, groceries, car loans, and an endless assortment of other expenses. In examining how you spend, it may be helpful to think about what Juliet Schor, a professor of sociology at Boston College, concluded in her classic book entitled, The Overspent American: Why We Want What We Don’t Need. She said that people no longer try to keep up with the Jones and instead are increasing their spending to emulate the lifestyles of the rich and famous. Schor noticed, for instance, that status-conscious women spend far more than necessary on expensive lipstick because others might notice the tube when they use it.
Another way to free up cash is to pay less for credit, whether it’s for a car, a home loan or a credit card. As a borrower, you’ll enjoy the best interest rates by being fanatical about maintaining a pristine credit profile. You’ll get a good idea where you stand by reading your credit reports. Once a year, you may order a gratis report from each of the three major credit bureaus — Equifax, Experian and TransUnion. You can do so by visiting AnnualCreditReport.com or by calling (877) 322-8228.
Your FICO score is calculated by using information from your credit report history, including your spending habits and debt load. The higher the FICO score, the better. The median FICO score for Americans is 711 out of a possible 850.
If you have a sterling FICO score, you’re entitled to better interest rates, which will ultimately mean more money in your pocket You can obtain your FICO score for a fee at myFICO or you can answer a few questions and get a free estimate of your FICO score range. Some credit card companies now offer free FICO scores to its customers.
While it’s doubtful that you have as much saved as your parents, you possess something invaluable that they can never buy — loads of time. For an investor, time is invaluable because it allows a modest investment account to grow spectacularly though compounding. If a 25-year-old starts investing $250 a month, with an average 6% return, until age 65, he’d cross the finish line with $479,251. In contrast, if someone didn’t start this savings exercise until age 45, the nest egg would grow to a mere $113,914. Saving automatically is the best way to build wealth. Make sure you are setting aside money through a workplace plan and establish a Roth IRA.
The best way to invest is through low-cost index funds which try to match the returns of market benchmarks such as the Standard & Poor’s 500. In contrast, managers at actively managed mutual funds attempt to select equities and bonds that they think will hit home runs. Academic research has strongly suggested that all this jockeying to bet on winning securities is futile because markets are efficient. The best index funds pass along miniscule expenses to investors, which give them a built-in performance advantage over actively managed funds. Over an investor’s lifetime, the cost difference between investing in an average-priced mutual fund and an inexpensive index fund could be tens of thousands or even hundreds of thousands of dollars.
Young investors can typically afford to be more aggressive with their retirement investments. Because their time horizon is long, their portfolios can ride out the market’s occasional tantrums. Spreading your cash among different types of investments will allow you to capture the highest returns for the amount of risk you’re willing to take.