Four Tips for Young Investors
As the Persinos paterfamilias, I’ve been trying to get the youngsters of our clan more involved with personal investing. Many of you can perhaps sympathize that it’s a tough sell.
When a grandpa like me attempts to preach financial prudence to preceding generations, the typical result is the rolling of eyes. Hence today’s column, as a public service. Feel free to share this advice with the younger people in your midst.
Here are four investment tips for younger investors, to help them start and grow a retirement portfolio.
1) Harness The Power of Compound Interest
One of the most common pieces of retirement investing advice you’ll hear is to start early, or at least as early as possible. All the studies show that the earlier you get going, the more money you’ll have in retirement. That’s because the earlier you start, the earlier compound interest goes to work for you.
Younger investors often overlook the power of compound interest, but if you can set aside a small amount of money every month and stick to your program, the results can be dramatic (see chart).
Even better if you can set aside, say, between $100 and $500 a month. To illustrate both ends of that spectrum, let’s look at two hypothetical 25-year-old investors, Henry and Marie, both of whom are keen to get started on their retirement investing. Henry can afford to set aside $100 a month (or $1,200 a year), while Marie is fortunate enough to be able to tuck away $500 a month ($6,000 a year) for her golden years.
Let’s also assume a hypothetical 10% average annual rate of return, compounded monthly. By age 50, Henry’s savings would have ballooned to $133,789. That’s not bad, but Marie would be sitting on a plus-sized nest egg of $668,945.
The moral? As far off as retirement seems, getting going early is well worth the trouble. And setting aside as big a chunk of money as possible every month is a real game-changer. Your older self will thank you for it.
2) Emphasize Stocks
Younger investors should take advantage of their long time horizons and focus on stock mutual funds in their 401k plans. The fact is, 401k plans are long-term money. And over the long term, stocks have outperformed every other investment vehicle.
I’d never advise putting all of your eggs in one basket. But the younger you are, the more heavily you should weight your 401k portfolio toward stock mutual funds. This emphasis on stocks should diminish as you get closer to retirement.
Don’t ignore small-cap stocks. Small companies tend to be dynamic and convey outsized potential for growth. Over the long term, small caps historically outperform the broader market. The small fry are generally riskier, but young investors have sufficient time to ride out the ups and downs.
As I’ve asserted in previous columns and videos, I remain bullish about the stock market this year.
However, lofty valuations suggest that you should at least get cautious and make sure your portfolio is hedged with safe havens. That’s why it makes sense now to increase your exposure to dividend stocks.
This asset class provides higher safety, but with plenty of growth and income. (Below, I steer you toward a list of our favorite dividend plays.)
The dividend-paying stock has long been a mainstay for those living on a fixed income. But these vehicles have been viewed as contrary to the temperament and long-term growth goals of young investors. After all, why invest in a stodgy utility when that money could be socked into shares of the latest high-flier?
The answer is that for every Alphabet (NSDQ: GOOGL) or Apple (NSDQ: APPL), there is a Pets.com, the poster child of the dot-com bust.
3) Deploy Dollar-Cost Averaging
One way to invest in the market for the long haul is through a technique called dollar-cost averaging. The name sounds complicated, but you’re actually already doing it if you invest part of your paycheck in a 401k or other employer-sponsored retirement plan.
The concept is simple: under dollar-cost averaging, you commit to buying a fixed dollar amount of a particular investment on a regular schedule, usually monthly, without regard for the share price. This way, you naturally buy more shares when prices are low and fewer when they are high.
Dollar-cost averaging allows young people who don’t have a lot of money to start investing. Younger investors’ long time horizons also give them an advantage here, because the market’s long-term course is generally higher.
A bonus? Dollar-cost averaging is a great way to ease anxiety. If you’re simply putting money into a certain investment on a regular basis, you can block out the ever-present temptation to try to buy low and sell high, acting on which, studies show, usually does more harm than good.
4) Keep it Simple
From personal experience with the youngsters in my family, even the most compelling argument can fall upon deaf ears. The real decision facing youth isn’t whether to invest in a certain stock, but whether to invest at all. When pondering the choice between investing or spending, young potential investors often choose instant gratification. Persuading these fledgling capitalists to invest in their future is a challenge.
That’s why it pays to keep investments simple, especially for newbie investors. Peter Lynch said it best in his classic 1994 book Beating the Street: “Never invest in anything that you can’t illustrate with a crayon.”
U.S.-based utilities are easy to understand as businesses and their stocks are excellent proxies for dividend growth. Utilities provide essential services, a virtue that tends to make their stocks recession-resistant. They’re also insulated from overseas shocks, such as geopolitical tensions.
For our “dividend map” of the best utilities stocks to buy, click here now. These companies are cash cows that generate juicy double-digit yields, year in and year out. They’re appropriate for any type of investor, at any stage of life.