In these difficult economic times, the idea of putting extra money aside for investments can seem like a daunting task. But planning for the future is essential to financial security. You don’t need to get an economics degree or get a second job to find the extra money needed to start an investment portfolio. Here are some of the best practices for entering the market.
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Key points to remember:
- Create an investment policy statement (IPS) that states the purpose of your investment.
- Review your IPS annually to make sure it’s still aligned with your financial goals.
- Find ways to reduce certain budget items so that you can allocate small amounts for investment.
- Place the funds in a separate interest-bearing account
- Consider setting up an automatic transfer that dedicates an amount from your paycheck to savings.
- Find affordable investment vehicles, such as exchange-traded funds (ETFs) and brokerage houses that offer little or no transaction fees and no minimum balance.
- Research any finance professional thoroughly before using them as an advisor.
Make a plan
Before investing a penny, it is imperative that you develop a plan for your money. A written investment plan, known as an investment policy statement (IPS), can be helpful in getting organized. An IPS must meet the purpose of your investment, such as paying for a child’s college education or funding your retirement. This information will determine the amount of return you want on your investment and the time frame in which you will need it. The IPS will also address your risk tolerance. Investors who need their money short-term should avoid volatile investments that tend to fluctuate up and down. If your goals are longer term, you can enjoy the benefits of riskier investments while still having time to recover from inevitable market declines. There are several types of investment products available, and each has its own set of benefits, risks, and fees.
Why You Should Develop an Investment Policy Statement (IPS)
The United States Securities and Exchange Commission operates the “Investor.gov” website, which provides an easy-to-read guide to everything from stocks and bonds to money market funds and commodities. Another benefit of creating a personal IPS is the ability to prepare for bad financial times before they happen. A strong IPS will mitigate the hasty decision making that can become common during economic upheavals.
Your financial goals will likely change over time. Review your IPS every year or when big life changes happen, like getting married or divorced, having a child or buying a house, to make sure your plan still meets your needs. You can even practice investing without using real money. Imagine that you have a specified amount of money (say $15,000) and use it to track the progress of different investments over the course of a year or more. This will allow you to learn how different investment vehicles work and which best suit your needs.
Determine your initial investment
Investing will be less daunting if you don’t have to bet the farm to get in. It’s possible to start a successful portfolio with an initial investment of just $1,000, followed by monthly contributions of as little as $100. There are many ways to get an initial sum that you plan to allocate to investments. First, look at your personal budget and see if there are any areas where you can cut spending, such as entertainment, shopping, or restaurants.
Take the money you would have used for these non-essential expenses and put the funds in a separate interest-bearing savings account. Another idea is to live by the pay yourself first rule. Set an amount to deduct from each paycheck and put it aside for savings before you do anything else. You can set up automatic transfers from your current account to your savings account so that you are not tempted to skip savings. Finally, don’t underestimate the power of just keeping your spare change.
Many credit unions and banks, such as Bank of America, offer programs that round up debit card purchases to the nearest dollar amount and transfer the difference from your checking account to your savings account. To get the most out of any of these programs, find a financial institution that will match some or all of your savings.
Find affordable investment products
There are several ways to invest once you have at least $1,000. One such method is exchange-traded funds (ETFs), which only require a minimum purchase of one share. You will get a better return with brokerages that offer little or no commissions on transactions and no minimum balance. Another option is to find an all-in-one or pre-blended fund that will let you in for $1,000 or eliminate the minimum investment requirement in exchange for automatic monthly contributions (usually at least $50 per month). The advantage of this type of fund is that it gives you an instant diversified portfolio of cash, bonds and stocks.
While having your portfolio managed by experts may sound appealing, many believe that the higher annual fees of actively managed funds aren’t justified when compared to the returns of passively managed funds with lower fees.
According to a Morningstar report, in 2021 actively managed funds continued to underperform passively managed funds. The report found that only 45% of actively managed funds were able to outperform their passively managed peers.
Protect your money
Once you finally have the money to start investing, the last thing you want to do is lose it all to a fraudulent transaction. While a professional financial advisor can be invaluable when it comes to navigating your investment portfolio, beware of scam artists who only claim to have their investors’ best interests in mind.
There are several types of scams that can target both new and seasoned investors. Investors should never give their money to anyone without doing proper research to verify the credibility of an advisor or broker. The United States Securities and Exchange Commission’s Electronic Data Gathering, Analysis and Retrieval (EDGAR) filing system is an online resource for auditing a company’s financial statements and operations. You can also use the SEC database to research the disciplinary history of securities sellers, who should be licensed to sell securities in your state.
Avoid working with companies and individuals who push you to invest quickly or who promise you “guaranteed returns”. At best, a very optimistic annual return is 10%. A promise of anything more than that is probably too good to be true. If you have questions or concerns about investment fraud, contact the SEC, the Financial Industry Regulatory Authority (FINRA), or the North American Securities Administrators Association (NASAA).
Even with a small budget, it is entirely possible to save some extra money to invest in an investment portfolio. All it takes is some planning to determine your investment goals, find investment products that don’t require large up-front commitments, and do the proper research to ensure your funds are properly protected.