Investing is necessary to hit nearly every financial goal imaginable, including retirement.
Some people are scared of investing, but what you should really be afraid of is the consequence of not investing. There is a huge opportunity cost to sitting on the sideline.
For example, take someone who is a diligent saver and put away $10,000 per year from 25 to 65. If that person puts that money in an interest-bearing account, like a savings account, that yielded an interest rate of 1% on average, they would be left with just over $500,000.
But if you were to invest that money instead, you’d have over $1.25 million!
That’s right, assuming a modest 5% return on your investment every year, you’d more than double your money when compared to keeping it in a bank account.
And if the market returned 7% on average, which is closer to its historical average, you’d have north of $2.10 million! That’s a 4x return over a bank account.
Below, we’ll provide a complete guide that gives you the basics you need to know how to invest money to accomplish your personal finance goals.
How to Invest Money: 6-Step Beginner Guide
1. Set Your Financial Goals
The first step you need to take before investing your money is setting some basic financial goals. This is typically the first step in every financial planning process out there.
For nearly everyone, that should include a retirement goal. You should set a rough plan for what age you want to retire and how much money you wish to retire.
The age is 100% your call. Most people retire in their 60s, but there’s no reason you cannot work longer. And if you want to retire earlier, you’ll need to save and invest a little more along the way.
When it comes to how much money you need in retirement, you can use a simple trick to find your number. It’s called the 4% rule.
The rule works by simply taking your living cost and dividing it by 0.04 (or multiplying it by 25). So if your cost of living, including rent, groceries, and all other expenses, is $20,000 annually right now, you will need $500,000 to retire comfortably (assuming your cost of living stays the same).
If your cost of living is $40,000, then you’ll need a million dollars.
Retirement isn’t the only financial goal you should consider. Other goals to consider before investing are:
- Paying off debt
- Building an emergency fund
- Saving for a vacation
- Saving for a car
- Preparing to buy a house
- Saving for a child’s education
- Building wealth
While the list is not exhaustive, it’s a good start.
It’s important to understand these goals because it may impact how you invest. For example, if you currently carry a lot of high-interest debt, you might prioritize paying that off before investing.
Similarly, if you are saving for a car or house, you’ll have to balance how much you plan to invest versus how much money you put into another bank account for those items.
Determine Your Investment Level
Once your goals are set, you can determine how much you want to invest—both initially and on an ongoing basis to hit your retirement goal and balance your other financial goals.
2. Determine Your Involvement Level
Once your goals are set and you have a clear idea of how much you want to invest, it’s time to decide how involved you want to be in the investing process.
Generally speaking, you have three options:
Option 1: Active Investor
Active investing requires the most work and also comes with the most amount of risk.
When it comes to being an active stock market investor, you would need to monitor and choose the exact stocks you want to invest in. You’d also need to keep your ear to the ground ongoing to know if you wanted to trade or pick up another stock in your portfolio.
Even with bonds and real estate, being an active investor generally requires more work to pick and choose the individual bonds or properties you want to invest in.
This option also carries the most risk because you have less diversification in what you invest in, unlike the options you will see below. Even if you invest in 10 or 20 individual stocks, it might not be enough to diversify your portfolio truly; you’d have to do the math to confirm it.
Option 2: Passive Investor
A passive investor chooses to invest in broad index funds or exchange-traded funds (ETFs) that mirror an established index. A passive investor usually has a lower risk tolerance and less time to manage their portfolio actively.
An index fund or ETF is a group of equity or bonds that are bundled together. For example, you could purchase an S&P 500 index fund and buy the 500 biggest company’s stocks at one time with that purchase. It’s an easy way to diversify and “buy the entire market.”
Personally, this is the approach that I like to take. I can pick out the lowest cost index funds and ETFs that mirror the broad indexes that I am interested in.
Note: a passive investor looking to invest in real estate would likely choose a REIT.
Option 3: Robo-Advisor Investor
Robo-advisors take passive investing to the next level and are good options for beginners who want to take a more hands-off approach.
With a robo-advisor, like Betterment, you answer a set of upfront questions. Usually, it’s a mix of personal questions (like your name, birthdate, etc.) and financial questions (like the goals section you completed in step 1) to give the robo-advisor all the information they need to invest on your behalf.
From there, the robo-advisor will invest in a mix of ETFs on your behalf and manage your investments ongoing as you age and your investment goals potentially change.
Bonus Option: Financial Advisor
Last, you could always hire a financial advisor to invest on your behalf. This option is typically the most costly, and you should be cautious about choosing an advisor who has your best interest in mind.
Compared to a robo-advisor that charges around 0.25% in management fees, it is not uncommon for some financial advisors to charge a 1% management fee or more.
3. Pick an Asset Class and Investment Vehicle
Once you’ve decided on your investment style, it’s time to choose how you want to invest. If you choose the robo-advisor or financial advisor route, this might be done on your behalf, but it’s still good to move to be educated on your investments and know your options.
In general, you have a few different asset classes to choose from, which include:
- Stocks or equity
- Real estate
- Commodities (like gold)
Stocks and bonds are the most common asset classes to invest in, with bonds viewed as low risk and stocks more volatile. You have the option to invest in them through mutual funds, index funds, ETFs, or by buying them individually.
You could also invest in real estate through a REIT or buy an individual property or invest in a commodity such as gold. Both of these asset classes are for slightly more experienced investors, and many experts, including Warren Buffett and John Bogle, think you can get by with a simple mix of equity and bonds.
But, ultimately, the choice is yours in what you want to invest in.
Just don’t put all of your money in bitcoin… please.
4. Choose Where You Want to Invest
Next, it’s time to choose where you want to invest. In other words, it’s time to choose a broker.
There are a few factors to consider here, including the decisions you have made to this point.
If you want to be an active investor of stocks, choosing a platform with free stock trading like Robinhood or Webull or even Charles Schwab would be good options.
If you decided to be a passive investor of index funds or ETFs, choosing an online broker that offers a wide selection of low-cost fund options would be wise. Fidelity, Charles Schwab, and Vanguard would all be good options here.
And if you chose to go with a robo-advisor, well, then you need to select which robo-advisor you want to invest with! Betterment and Wealthfront are both popular options, but Schwab and Vanguard also have similar offerings.
The other aspect that you need to consider is the type of account you want to invest in.
If you want to open a standard brokerage account, you likely don’t have to put too much thought into it.
However, if you want to open a tax-advantaged individual retirement account (IRA) or 529 accounts for college savings, you’ll want to make sure the broker you choose to go with offers what you are looking for.
Bonus: Be sure to consider your 401(k) at this point if your employer offers one as well. If they offer an employer match, you need to get it-it’s free money!
5. Get Started!
At this point, you’ve done most of the important legwork to start investing your money! Even if you have a little money to invest right now, you can get started today with only $100.
Taking action involves three important steps:
- Open your account
- Fund your account
- Make your investment purchases!
And please, do not forget step #3.
I’ve heard horror stories of people opening up a Roth IRA and depositing money into the account, thinking they had invested their money. But they never actually invested in an asset class!
The money was sitting in the broker’s account, similar to how it would sit in a bank account.
Once you fund your account, you need to make your investment purchases, whether it’s for a stock, index fund, ETF, or anything else, don’t forget this step in the process!
Note: Diversification is Crucial
You have to understand that there are no sure things to improve your investment choices and get the best outcome. Any investment could wind up losing your money; this is why it is important to make sure you invest money wisely and diversify your portfolio. This is something that can have a massive impact on your investing potential, and it means you have a greater chance of a successful return on investment (ROI) in the future.
You need to make the right decisions when it comes to spreading out your investments. This means you can go for some safer investment opportunities, like property or bonds, and make a few riskier moves as well, such as SMSF Bitcoin investments. At the end of the day, you need to make sure you focus on taking the right steps to help you have more diverse investments that you can benefit from in the future.
6. Manage Your Investments Ongoing
Equally important to making your initial investment is managing your investments ongoing.
If you chose to be an active investor, you’d likely need to keep a closer eye on your investments than if you chose to be a passive investor or robo-advisor investor. In the case of the latter two, checking in on your investment once a month or even once every couple of months is probably more than enough.
The one important thing, no matter which route you took, is to contribute money regularly.
It’s not enough to deposit money once and walk away – unless you deposited a hell of a lot of money!
Remembering back to the example at the beginning of this article, the diligent saver was putting away $10,000 every year. It was that consistent saving combined with investing that allowed them to retire with over $2 million.
So whether you contribute money once a month or once a year, remember to have a plan to add funds to your investments regularly.
Summary – How to Get Started with Investing
Investing on your own doesn’t have to be hard or complicated.
Which is a good thing since investing is usually necessary to reach retirement and accomplish other investment goals. You can get started in six simple steps:
- Set your financial goals
- Determine your involvement level
- Pick an asset class and investment vehicle.
- Choose where you want to invest.
- Get started!
- Manage your investments ongoing
Start investing money today to set yourself for a better financial future!