Investing When Young: Start Building Wealth Early

Matt — Wed, 12 Jun 2024 20:48:59 +0000

Being young, you often focus on the here and now. It’s easy to forget about the benefits of investing when young. But looking ahead and starting early can make a big difference. It helps your savings and overall wealth grow over time. We will talk about how you can invest wisely while you’re young in this article.

Many young adults miss out on the chance to learn how to invest young and where to invest. They’re more focused on enjoying life now rather than planning for the future. Yet, with the right investment strategies, you can pave the way for financial success later on.¹

Key Takeaways

Starting to invest early can harness the power of compounding to grow your wealth over time.
Defining clear investment goals can help you choose the right strategies and asset allocation.
Diversifying your investments and understanding risk tolerance is crucial for long-term success.
Automating your investment process can keep you disciplined and on track.
Minimizing investment fees is key to maximizing your returns.

Start Investing Early

Starting to invest early is a key step in becoming wealthy. The sooner you start, the longer your money has to compound interest. This phenomenon is often called the “eighth wonder of the world.”²

Time is the Most Valuable Asset

Investing early means you have time on your side. Imagine this: If you invest $50 each month starting at age 20, you’ll have more money than someone who begins at 30 or 35. This is all thanks to the time value of money and compound returns.²

Compound Interest: The Eighth Wonder of the World

Compound interest helps your money grow faster over the years². The sooner you invest, the more your money can compound. This leads to bigger amounts over time. Even small, regular investments can turn into a large sum with compounding.

Define Your Investment Goals

Before starting to invest, set clear investment goals following the SMART framework.³ These goals could be for the short, medium, or long term.⁴ For example, saving for a house’s down payment or building a retirement fund. Setting specific financial goals helps focus your investment strategy.

Setting SMART Financial Goals

The SMART method is great for defining investment goals.³ It ensures they are clear, achievable, and have a deadline.⁵ By using this method, you can plan your investments well and easily see how you’re progressing.

Short-term vs. Long-term Goals

Think about short, medium, and long-term investment goals.⁴ Short-term goals are things you might do in the next few years, like buying a house or going on a trip.⁴ Medium-term goals are bigger, taking more time, such as your child’s college fund.⁴ Long-term goals include plans like retirement, which are far into the future.⁴ It’s key to match your investment plan with these varying timelines to meet your financial aspirations.

Using the SMART framework for your investment goals and splitting them into short, medium, and long terms, your investment plan becomes clearer and more efficient.³⁵⁴ This method ensures your money is working towards your distinct financial needs across different timeframes.

Investing vs. Paying Debt

Youth often wonder whether to invest money or pay off debts. It’s smart to clear up high-interest debts first, like from credit cards. This is because you save more money by getting rid of these debts.⁶ The interest rate on a credit card can be 24.37%, as per Investopedia. So, it’s key to tackle these debts first.⁶ People with no debt or low credit card balances tend to have better credit scores than those maxed out on cards.⁶

High-Interest Debt vs. Low-Interest Debt

With low-interest debts like student loans, investing might be better. If your debt’s interest rate is below 6%, putting money into investments could benefit you more. This is especially true for long-term investments that may give you more gains than you’d spend on your debt.⁷ Balance transfer credit cards are handy too. They can give you a period of 0% interest for six to 18 months. This means you can lower your debt without more interest adding up.⁶

Prioritizing Debt Repayment

Your choice between investment and debt payment should fit your financial situation and goals.⁷ If your debt’s interest is 6% or more, it’s better to pay off the debt first. This includes focusing on retirement savings later.⁷ Debt consolidation loans can make repayment simpler with a lower interest rate.⁶ But watch out for debt relief companies that demand big fees and don’t keep their promises, warns the Federal Trade Commission.⁶ Over at Investopedia, you can find lists of trustworthy debt relief companies to aid in your decision.⁶

Choose Your Risk Tolerance

Understanding your risk tolerance is key for investors. It’s closely linked to your investment goals. The level of market ups and downs you can handle is vital for choosing where to put your money.⁸

Understanding Risk and Reward

Generally, young investors can risk more for greater rewards. They usually have more time to recover from market drops. But finding a match between your risk tolerance and goals is essential, no matter the timeline.⁸

Asset Allocation Based on Goals

Spreading your money in different ways helps curb risk. This is called diversifying. It can match your portfolio better with what you want financially. For long-term goals, putting more money in riskier assets, like stocks, makes sense.⁸ Yet, for short-term plans, adding more stable options, like bonds, can make your finances safer.⁸

Getting the right mix of assets is crucial for your risk level and time frame. It’s how you make the most for the future while keeping things stable enough.⁸

Investment Fees: The Silent Wealth Killer

Investing your money often includes paying fees. These fees can greatly affect how much money you make over time.⁹ Even small fees can eat into your profits because of compound interest.⁹ To grow your money best, look for investments with low fees, like index funds.⁹

Fees and expense ratios might not seem like a big deal. But, if you’re not careful, they can seriously hurt your savings in the long run.¹⁰ These compounding fees will lower the total growth of your investments. This leaves you with less money for your future plans.¹⁰ Always check the fees on any investment you’re considering and choose the ones that cost less.⁹

Lowering the impact of fees can make your money work better for you. This way, you could earn more without doing extra work.¹¹ Investing in low-cost options like index funds is a smart way to increase your wealth over time.⁹

Investment Accounts: Tax-Advantaged vs. Taxable

Investing offers many account types with different benefits. Two main types are tax-advantaged and taxable accounts. Knowing the difference helps increase returns and reach financial aims.

Retirement Accounts (401(k), IRA, Roth IRA)

Tax-advantaged retirement accounts like 401(k)s, IRAs, and Roth IRAs have big tax perks. For 2023, you can contribute up to $6,500, or $7,500 if over 50, with a bonus $1,000.¹² Contributions go up to $7,000 in 2024.¹² 401(k)s have a 2023 limit of $22,500 or $30,000 with a bonus, and a possible total of $66,000.¹² In 2024, 401(k) limits are $23,000 or up to $30,500 with extra, total $69,000.¹² These accounts boost your money fast with tax breaks but have some withdrawal limits.

Brokerage Accounts

Taxable brokerage accounts give more freedom and investment choices.¹³ You can trade a variety of assets like stocks and bonds. Following sales, you might pay capital gains or income tax.¹³ They can be good after using up retirement accounts’ limits or for easier fund access with no age rules.¹³ In these accounts, consider investing in tax-friendly options and municipal bonds for lower taxes.¹² Corporate bonds are better for tax-advantaged accounts.¹²

Knowing tax-advantaged and taxable accounts’ rewards and drawbacks helps design a strong investment strategy. The right account mixture lessens tax complexity, improving long-term wealth chances.

Investing When Young

Being young and investing go hand in hand. The magic of compounding grows your money over time.² It’s like a snowball effect. The longer you invest, the more you could earn. This is what makes starting early so amazing. You get to enjoy the benefits for many years.

The Power of Compounding Over Time

Time is a crucial factor in wealth building through investment.² Starting early gives your money more time to grow. Let’s say you put $50 a month in at age 20. You’ll have more money at retirement than someone who started at 30 or 35 with the same amount.¹⁴ This shows how compounding multiplies your gains over time.

Dollar-Cost Averaging

Young investors can benefit from dollar-cost averaging. It means putting a fixed amount in your account regularly, like every month or quarter, no matter what the market does.¹⁴ Doing this can lower the risks of the market’s ups and downs. Plus, it makes you put in money steadily, avoiding investing based on feelings.

If you’re starting now or fine-tuning your investment plan, remember these keys. Starting early, compounding, and dollar-cost averaging pave the way for your financial future.²¹⁴

Asset Classes for Young Investors

Are you a young investor? If so, there are several options for you. You can choose from stocks, mutual funds, bonds, and fixed income investments. Stocks and stock-based mutual funds offer high returns but also have more risk. They are good for long-term plans. Bonds and fixed-income investments, on the other hand, are more stable with less risk. They are better for short-term goals or to balance risky stock investments.¹⁵

Stocks and Mutual Funds

It’s smart for young investors to be bold with their choices. Having more stocks in your portfolio means aiming for big growth. But this also means taking on more risk.¹⁵ It’s crucial to spread your money around to lower the risks. Using index mutual funds and ETFs that follow large markets, like S&P 500, helps. They make diversifying easier and cheaper.¹⁶

Bonds and Fixed Income

When planning for retirement, the type of investments you make changes with age. At age 25, it’s different from being 75. The choice depends on how long you plan to invest and your comfort with risk.¹⁵ Bonds and fixed-income choices are less risky and bring more stability. They are good for short-term goals or to make a stock-heavy portfolio safer.¹⁵ Additionally, how often you add to your retirement funds affects your choice. More frequent contributions can let you take a more balanced risk approach.¹⁵

Asset Class	Risk Level	Typical Use
Stocks	High	Long-term growth, aggressive portfolios
Mutual Funds	Moderate to High	Diversification, index investing
Bonds	Low to Moderate	Stability, income, short-term goals
Fixed Income	Low	Preservation of capital, retirement planning

Automating Your Investments

Automating your investment process can keep you steady and disciplined. It helps over time.¹⁷ Simply set up transfers from your checking to investment accounts. Also, have parts of your paycheck go directly into retirement funds. This way, investing becomes a regular part of your financial life. You do not have to think about it every time.¹⁸ Letting your dividends reinvest by themselves can also lead to more returns. This happens because of the magic of compounding.

Automatic Transfers and Contributions

Putting your investment efforts on autopilot is a big step towards consistent wealth-building.¹⁸ You can easily arrange for a $500 transfer each month into an IRA if you’re under 50. This process makes things smoother and automatic. Wealthfront asks for a $500 minimum to start an investment account, but it’s free for cash accounts or financial planning. On the flip side, Betterment starts at only $10 with no minimums for investment. This shows how you can jump in with little money.

Rebalancing Your Portfolio

Aside from automating your investments, adjusting your portfolio from time to time is smart. It helps you keep in line with your financial goals.¹⁷ When choosing an automated investment tool, keep an eye on their customer support, fees, and if they need a minimum amount to open an account. Consider the tools they offer for research too. Automating the check and balance of your portfolio ensures your investments match your desired level of risk and targets over time.

Robo-Advisor	Account Minimum	Fees
Wealthfront	$500 for investment accounts, $1 for cash accounts, $0 for financial planning¹⁷	0.25% for most accounts, no trading commission or fees for withdrawals, minimums, or transfers. 0.42% to 0.46% for 529 plans¹⁷
Betterment	No account minimum for investing, $10 to start investing¹⁷	0.25% annually for the investing plan, $4/month fee for balances under $20,000. 0.65% annually for the premium plan¹⁷
M1 Finance	$100 account minimum, $500 minimum for retirement accounts¹⁷	$3/month in fees¹⁷
E*TRADE Core Portfolios	$500 account minimum¹⁷	0.30% in fees¹⁷
Merrill Guided Investing	$1,000 account minimum, or $20,000 with an advisor¹⁷	0.45% annually of assets under management. With an advisor, the fee is 0.85%, with discounts available for Bank of America Preferred Rewards participants¹⁷

Conclusion

Investing early in life is super powerful for building wealth over time. You get to use the magic of compound interest¹⁹. This lets your money grow quickly, especially when you keep adding to it regularly. It also helps to have clear goals for investing and use smart plans like spreading your money around and always investing a fixed amount²⁰.

Being a good investor means sticking to your plan, even when the market goes up and down¹⁹. Think about the long haul and keeping your money in different places. This way, you can meet your money goals, like buying a home, paying for school, or enjoying your retirement.²⁰

If you start investing when you’re young,²⁰ you could be on your way to some serious financial success. Take advantage of growing your money¹⁹ and the power of compound interest. Do this with a mix of investment tactics and a steady, long-term approach. Follow these tips, and you’re likely to reach your financial dreams and lead a happy life.

FAQ

Why is it important to start investing when you’re young?

Starting to invest early gives your money more time to grow. This is thanks to the power of compound interest. It makes your investments grow a lot over time.

How do I define my investment goals?

Defining goals with the SMART framework is key. It means your goals are Specific, Measurable, Achievable, Relevant, and Time-Bound. For example, you might save for a house, a child’s education, or retirement.

Should I invest or pay off debt first?

First, focus on clearing high-interest debt like credit cards. This is because the money you save on interest can be more than what you gain from investments. For low-interest debt, like student loans, investing might be a better option due to compound interest benefits.

How do I determine my risk tolerance?

If you’re young, you can take on more risk. This is to aim for higher returns, as you have more time to recover from any losses. Yet, it’s vital to diversify based on your goals. Use stocks for long-term plans and save conservatively for the short term.

How do investment fees impact my returns?

High investment fees can really eat into your returns over time. Even small fees can reduce your portfolio growth. It’s critical to know your investment’s fee structure. Choosing low-cost options like index funds can help you keep more of your money.

What types of investment accounts should I consider?

Consider accounts like 401(k)s, IRAs, and Roth IRAs for their tax benefits. Remember, they have limits and rules for access. For more freedom, taxable brokerage accounts might be better, even if they lack tax advantages.

What are some strategies for investing when I’m young?

Strategies like dollar-cost averaging and automatic investing are great for the young. They help you bypass market highs and lows while keeping your investments regular. Setting up automatic contributions can also keep you on track.

What asset classes should I consider as a young investor?

Youth has options like stocks, mutual funds, bonds, and more. Stocks offer high returns but at a higher risk. Consider bonds for a stable, lower-risk option, especially if you’ve got short-term goals or want to balance your portfolio.

Personal finance tips – Making Money Playbook