Helpful financial suggestions.
I admit, it seems like a somewhat obvious (yet, somehow unusual) topic for a company that hangs its hat on providing that very thing. The suggestions I’m talking about, however, are the little gems we hear all the time, but may not have thought about their application to our financial lives. Today, we’re going to take a look at some common sayings and determine what they’re really getting at.
Buy low / Sell high.
This one seems pretty straightforward, right? Your goal for investing (I hope) is for you to invest (buy) in a product (mutual fund, ETF, stock, annuity, etc…) and have it be worth more than you paid for it in the long run. That way, when we need money and sell the product, we end up with more money than we started with. “Duh,” you’re thinking. Here’s the problem. People get in the way of themselves and make this harder than it needs to be. Way harder. For example, if the market dives and you start losing sleep thinking about everything that could go wrong, you may convince yourself that the 100% right move is to get off the train, sell everything, and take your losses.
Please, don’t do that.
Or, some individual stock or sector gets really hot and increases in price rapidly. You decide that the opportunity is too good to pass up and buy in. Two weeks later, the stock/sector cools off, pulls back, and you’re left with less money than you started with. Oops.
Here’s another bit of food for thought. According to an often referenced Dalbar study, for the previous 20 years ending on 12/31/15, the S&P 500 returned an average of 9.85% a year. Not bad. The average equity investor averaged a 5.19% return per year.
Can all of that difference be attributed to screwing up this suggestion? No, not all of it. Humans are emotional, and when we get emotional, we can get irrational. Injecting emotions (fear and greed, specifically) into the picture with your life savings can make for some awful decisions. In fact, tempering emotions is one of the most significant benefits of working with a financial advisor. In times of extreme bull or bear markets, the advisor can step in, lend perspective, and keep you from making a potentially crippling mistake to your financial future. The benefits of working with an advisor could be an entire topic for another day, so I’ll stop here.
Don’t put all of your eggs in one basket.
Don’t put all of your money in one stock or sector, for the same reason as the “hot stock” example above. The fancy word for this concept is “diversify.” This means you’ve got money in big companies, small companies, domestic companies, international companies, bonds, real estate, etc.… The thought is, if big companies have a terrible year, it’s ok because you don’t have all of your money in big companies. Makes sense, right? It’s a simple and effective strategy to smooth out your average investment returns and keep you from fully experiencing most of the wild swings that the market can take.
The easiest way for most people to diversify is through mutual funds and exchange-traded funds (ETF). Individual mutual funds and ETFs commonly buy stocks and bonds in dozens (or hundreds) of different companies and governments. This gives the investor a decent amount of diversification assuming the mutual fund or ETF isn’t focused on a specific sector. Many people have access to Target Date Funds (TDF) through their employer’s retirement plan. A TDF will own multiple mutual funds covering numerous investment categories and automatically adjust the allocation of money to be more conservative as your retirement date gets closer. If you don’t know anything about investing and/or don’t want to spend the time educating yourself about it, a Target Date Fund might be a reasonable investment option for you.
The best time to start investing is yesterday. The second best time is today.
If you’re young and reading this, I’m going to talk directly to you for this section. Older people will read it, too, but this concept has the power to make your life (retirement specifically) a ton easier. It will also have the ability to make old people nod in agreement or cringe as reality sets in.
You, young person, have more of one asset than everyone older than you, and it’s the most powerful asset you have.
The sooner you begin saving for your long-term goals (like retirement), the longer that money will have to grow. I know it doesn’t really sound all that crucial, but it is. Let’s look at a quick example…
The first person (Person 1) in our example begins saving for retirement as soon as they get their first job out of college at age 22. Their personal contributions to their 401(k) and their employer match total up to $5,000 a year. This person also plans on retiring at age 67 (in 45 years) and never increases their contribution amount. Finally, we’ll assume this person will average an 8% annual return on their investments.
Person 2 is the same as the first person with the only exception being they start saving later in life. They wait 10 years until they get serious about saving for retirement, therefore reducing their years to save to 35.
At retirement, the account balances for each person are:
Person 1: $2,197,689.79
Person 2: $955,769.08
You’re probably thinking one of a couple things. Maybe you’re thinking, “Person 2 still has nearly a million dollars. Not bad.” True. We haven’t factored in how inflation will affect your spending power, though. In other words, one million dollars in 45 years won’t buy as much as one million dollars today. Don’t believe me? Ask a grandparent how much it cost them to fill up their car with gas when they were your age. That’s inflation.
Something else you may be thinking is, “Person 2 could just save more each month to make up the difference.” Also true. Person 2 could save an additional $550 a month for the rest of their career and end up with about the same balance at retirement. In other words, it will cost Person 2 an extra $231,000 of their own money to end up in the same place Person 1 did.
Time is no joke. Use it to your advantage, or lose it forever.
Save for a rainy day.
Life happens, and sometimes it’s really hard. The same goes for your financial life, too. Maybe one of your children breaks their arm when they decide parkour is cool and give it a try? Now, you’ve got a deductible to cover. Or, maybe the transmission in your car decides it’s had enough as you pull up to the emergency room to get parkour-kid’s arm fixed? Perhaps you lose your job (can’t blame this one on parkour, sorry)?
If you don’t have a significant pool of money (emergency fund) to draw on, life’s rainy days take on an extra layer of stress and complexity. Build an emergency fund by starting with a goal of one month’s worth of expenses (not income). You might have the margin in your monthly budget to accomplish this quickly. If so, do it. No excuses. If you don’t have that kind of margin to build your emergency fund, you may have to get creative in the short term. For example, you could consider having a garage sale or listing unused items on Craigslist or eBay. You need to have a cushion, and sooner rather than later. How you achieve this goal is up to you.
Not every financial suggestion is worthy of an eye-roll, however. The next time someone gives you their favorite nugget of wisdom, thoughtfully consider it. If you can find a valuable point of application nestled inside of the “I’ve heard this a million times” phrase, you can genuinely tell that person “thanks,” and be better prepared for your future.
Damian is the lead Financial Concierge on Your Money Line, the financial help line serving all Pete the Planner® Financial Wellness clients. Damian is a CERTIFIED FINANCIAL PLANNER™ professional and loves answering your money questions. Despite sharing a last name and sense of humor, Damian and Pete are not related.