Haven’t got the stomach for investing in the stock market? You are in good company.
Only 54 percent of American adults have any money invested in the stock market, according to a 2017 Gallup poll. The poll, which has been conducted since 1998, shows stock ownership has been hovering around that level for the past five years (with a low of 52 percent in 2013 and 2016) — far from its high of 67 percent in 2002.
Younger Americans seem particularly risk-averse. A Harris Poll survey last year showed 79 percent of millennials (ages 18 to 34) are not investing in the stock market.
Their caution is understandable — this generation came of age during the Great Recession. But especially for young people, who have time to ride out ups and downs in the market, stocks should be a part of any retirement savings strategy. They provide a way to stay ahead of inflation and build real wealth.
But whether you’re 18 or 58, it’s possible to invest in stocks safely and simply. Start by making sure you’re minding the following tips.
1. Spread the risk
Stocks are riskier than a savings account or certificate of deposit. But they have historically delivered higher returns — which, again, you need to beat inflation and build up enough money to retire comfortably.
One way to take advantage of the higher returns offered by the stock market without taking on too much risk is to diversify your portfolio. In other words, don’t put 100 percent of your retirement savings in stocks. Put some in other types of investments — bonds, real estate and cash are common alternatives, for example.
Some investors use a rule of thumb to decide how much to invest in the stock market: Subtract your age from 100 and invest the remainder as a percentage in stocks. If you’re 40, for example, you’d keep 60 percent of your portfolio in stocks and 40 percent in other investments.
Today, many advisers and investors believe that rule is outdated. CNN Money says:
“[W]ith Americans living longer and longer, many financial planners are now recommending that the rule should be closer to 110 or 120 minus your age. That’s because if you need to make your money last longer, you’ll need the extra growth that stocks can provide.”
2. Buy mutual funds
Choosing individual stocks is an especially risky way to invest in the stock market. If a company goes kaput, you stand to lose all the money you invested in it. Mutual funds that comprise shares of stock in multiple companies — known as “stock funds” — can better balance the risk of owning stocks.
Money Talks News founder Stacy Johnson explains in “Ask Stacy — How Do I Invest in a Mutual Fund?“:
“The chief advantage of a mutual fund is that it allows an investor to own a small slice of a big portfolio. Diversifying with a bunch of stocks or bonds is much safer than putting all your money into one or two stocks or bonds.”
3. Use index funds
There are two main types of mutual funds when it comes to how they are managed: actively managed mutual funds and passively managed mutual funds, commonly called index funds.
Active mutual funds are run by a professional who aims to beat the market. Passive funds aim to mirror the performance of a market index — such as the Standard & Poor’s 500 stock market index — and require little management. In fact, they can be run by a computer. Due to these differences, active funds tend to come with heftier fees, and index funds tend to have much lower expenses.
As we reported in “This Type of Mutual Fund Offers Way More Bang for Your Buck,” the average expense ratio (operating cost) of active funds was 0.75 percent in 2016. By comparison, the average expense ratio of index funds was 0.17 percent
Some experts say that all you really need for investing in stocks is an index fund. As The Wall Street Journal has put it:
“The reason passive indexing does well is mundane but tried and true: Index funds feature diversification, minimal turnover and low expenses.”
4. Don’t waste money on fees
Don’t let mutual fund fees, portfolio management fees or trading fees eat up your capital. For most of us, these services just aren’t worth it.
To cut mutual fund fees, choose index funds instead of passive funds. To reduce portfolio management fees, consider whether you really need a portfolio manager or other financial adviser. For help with this decision, check out:
- “Ask Stacy: Do I Need a Financial Adviser, or Can I Manage My Money Myself?“
- “Should You See a Financial Counselor or a Financial Adviser?“
- “How to Choose the Perfect Financial Adviser“
5. Rebalance yearly
Suppose you decide to put 60 percent of your savings in the stock market. As time goes on, some of your investments will grow faster than others, and some may lose value. This will cause your 60 percent stock allocation to change.
So once a year you should adjust, or rebalance, your portfolio so it has the right balance of allocations again. This task can be done in 15 minutes.
6. Keep emotions out of investing
One common rookie investor mistake is reacting emotionally to stock market ups and downs. If you pulled out of stocks after the 2008 crash, for example, you may have missed the gains from the bull market that followed. Remember: You are in this for the long haul.
Euphoria and overconfidence are dangerous, too. Buying stock in a particular industry or sector that’s in the news can land you in trouble. By the time you’ve heard of a trend, it may well have peaked.
For more on the subject, read: “The Stock Market Is in Nosebleed Territory — Should I Get Out?”
7. Stay the course
The easiest way to grow a sizable retirement account is to start young and save and invest steadily and consistently. The editors at Kiplinger’s Personal Finance say:
“Over the long term, we think you can reasonably expect an average return of 7 percent to 9 percent per year on your investments. … You won’t make it every year, but that’s an achievable range if you plan your approach thoughtfully and stick to your plan.”
8. Build in discipline
Put much of your investing program on autopilot or follow a routine. This means:
- Having workplace retirement fund contributions deducted automatically from your paycheck.
- Setting up bank accounts such that money is routinely moved into investment accounts automatically.
- Rebalancing your investments annually.
9. Get every bit of your company’s 401(k) match
If you are unsure whether your employer matches 401(k) contributions, ask the human resources officer. If the company does match your savings, learn its maximum matching amount.
Suppose your employer matches your contributions to your 401(k) account dollar for dollar up to a maximum of 4 percent of your $4,500 monthly salary. That’s $180 you can get free every month — $2,160 every year. To earn the company’s match, you’d need to put $180 in the account every month, too.
To learn about maximizing your contributions to a workplace retirement account, check out “Ask Stacy: How Much Should I Contribute to My 401(k)?”
10. Contribute as much as you can
Matching your employer’s contribution is just a beginning for your retirement savings. To get an idea of how much money you should be saving for retirement, use a retirement savings calculator. Try AARP’s, for example, or search online until you find one or two you like.
Set a rough goal for retirement savings, and keep increasing the amount of money you set aside for retirement until you are putting away enough to reach that goal.
Share your experiences in the stock market in the comments below or on Money Talks News’ Facebook page.