Are you a worrier when it comes to investing? Or perhaps you're the ""set it and forget it" type who doesn't fret much about your investments? Whatever your investing style is, it's important to invest regularly and keep a long-term perspective, including paying yourself first … automatically. Here are some tips to save for your future.
The Proof is in Historical Performance
While it will come with risk and past performance is no guarantee of future results, stock market investing over the long term has historically shown to be a good way to build wealth. According to FINRA, a not-for-profit organization authorized by Congress to protect America's investors, investing provided average annual returns of more than 10% for stocks, 6% for corporate bonds, 5.5% for Treasury bonds and 3.5% for cash or cash equivalents such as short-term Treasury Bonds.1
Compare these returns to the interest earned annually over the long term with a regular savings account and you can see why investing makes sense.
The Importance of Asset Allocation
Because different investment classes can behave differently under certain market conditions, it's wise to diversify your portfolio with a mix of investments such as stocks, bonds and cash. If you're just starting to save for your future, you'll likely want to be more aggressive, with more of your money invested in stocks, because you have a longer time to invest. If you're closer to retirement, you'll want to be more conservative in your approach to preserve your savings.
Here are some basic examples of asset allocation:
Diversifying your investments will help you manage the degree of risk in your portfolio. For instance, stocks have historically had the highest average returns among the three asset classes, but come with more risk, while bonds usually are less risky although the returns aren't as significant. Cash or cash equivalents such as share certificates, money market accounts or treasury bills while safe, usually offer the lowest long-term returns.
What's Your Investing Personality?
One of the reasons many people make investing mistakes is because they let emotions get the best of them. That's easy to do when headlines dramatize the volatility of the stock market. However if you understand your financial goals, investment time horizons and tolerance for risk, you can create a portfolio tailored to your unique profile and hopefully minimize investing mistakes. Keep in mind that you may have several different financial goals and each can have its own unique portfolio allocation. For example, if you're a younger investor and saving for a large purchase in the next five to seven years, the money in this portfolio may begin moderate and require rebalancing to a more conservative allocation over time. But if you're also saving for retirement, you might use a more aggressive allocation for these funds as time is on your side and you're in a better position to ride out the enviable downturns in the stock market; in essence, letting time help you manage volatility. Furthermore, the sooner you start investing for retirement the better. That's because of compounding growth. When you invest even small increments and stay invested, there can be growth and then growth on that growth. That's why experts say that time in the stock market matters more than trying to time the market.
If you're saving for your future, experts say the rule of thumb is to put 10% of your pretax dollars toward retirement savings, like an IRA, 401(k), 403(b) or 457(b). Even if you start out with a lesser amount, commit to contributing a set amount of money to your portfolio each month. This investment strategy, known as dollar-cost-averaging, means you're set up to buy more investment shares when prices are lower and less when prices are higher. In addition, you don't have to make any decisions here, it happens automatically because of your regular contributions.
It's important to note that dollar-cost-averaging doesn't assure a profit or protect against loss in declining markets. Since dollar-cost-averaging involves continued investing regardless of fluctuating securities prices, you should consider the ability to continue purchases over an extended period of time.
Rebalancing Your Investments
Over time, your financial goals may change and time horizons will shorten, so it's important to review your investments at least annually and if appropriate, rebalance your asset allocation. A SchoolsFirst FCU financial advisor will discuss your finances, dreams and goals and make suggestions about which investments are right for you.
Staying the Course
You may wonder if there's times when you should exit the stock market, especially when it gets rocky. But this isn't a smart strategy. That's because the market rebounds. For example, when the market crashed in 2008, the S&P 500 fell a staggering 56%. Yet according to Vanguard, it took one to three years for investment portfolios to recover.2 This is why it may be good to consider that your portfolio use conservative investments for short-term goals and consider stocks just for longer-term goals to allow for potential recovery time.
- The Reality of Investment Risk Source: FINRA
- Should You Really Do Nothing Amidst All This Market Volatility? Source: CNBC