Hopefully after reading my previous post on “How to Invest $100?” you would know that person is asking the wrong question. You need to get an automatic snowball rolling that will increase your wealth. So now we are going to cover how to invest in stocks for the future; that way your snowball can keep gaining speed.
Legal disclaimer: Don’t trust a guy on the internet, please do your own research before investing. This is for educational/informational purposes only based on what I have had success doing.
Too Many Investment Options!
Do you want to invest in bonds? What about Fixed income funds? Annuities? Gold? Silver? Whole life insurance? Small Cap? International? SP 500? Total Stock Market? Real Estate? Bitcoin funds? Options/ Calls? Day Trading? Penny Stocks? Pharmaceutical Stocks? Oil + Gas? Dividend Stocks? Mutual Funds? Target Retirement Funds? Robo-Advisors? AHHHH!
Unfortunately at this point, many folks either do a few things:
1) Get overwhelmed at push off investing until a later date. Which can be problematic because as we know due to the power of compound interest the earlier you are able to invest, the better! We want good stocks for the future, not procrastination due to overload.
2) Hire someone. I’m going to hire this financial advisor who gets paid when I invest in certain funds that he gets paid to sell. While this is not the worst option in the world, it can be done without paying the salesman/saleswoman. They usually sell funds with fees either upfront or taken out on a yearly basis. A better return can be achieved in a DIY approach.
3. Spend it. Investing is so complicated and only for the rich, so YOLO! Obviously, this person gives up and will never achieve wealth.
So, what are my options?
To build a portfolio of stocks for the future, we need to breakdown a few things. I will briefly describe each option and what its intended purpose is in a portfolio.
Bonds are in simplistic terms a low cost debt service you are buying from a corporation or government (local, state, federal). They are not stocks, and do not produce a high return. General stability is the strong suit of bonds, they usually remain constant.
They average between 3%-4%/year return compared to the ~10% of stocks. So a portfolio of bonds in this economic environment is not going to really make you much money. According to the Vanguard Total Bond Index Fund (VBMFX), if you invested $10K in 2010, your $10K would be worth just over $14K.
Experts recommend Bonds in your portfolio at a smaller percentage. Some say you should have your “age” in bonds. With the theory that as you get older, you are placing more of your money into a safer nest egg with less risk.
However, if you are more risk tolerant and understand your emotions and risk, then you can opt for less. Personally, I try to keep 10% in bonds, and I am accepting more risk of having some down years because I know I don’t need the money right now. We are investing in stocks for the future!
So what exactly are stocks? When you buy a share of stocks for example, you are purchasing a very small percentage of that company. In exchange, the company you invest in gets your money, and they use that to run their company. If they make good decisions, and become more profitable, usually the price of their company will increase. Meaning the value of what you bought also increases.
However, let’s say that company now has a major competitor and their sales are declining sharply, your purchase will lose value. If the company is unable to recover, that company could go bankrupt and you could lose your entire investment!
I do not advocate for, nor practice investing in individual stocks. If one is to do it well, you must have a keen sense for the economy, be able to correctly value the worth of a company, an eye for the future, and be a bit lucky at the same time! I don’t have time to read shareholder reports for all these companies all day!
While you may hear of individuals who invested in something like a Bitcoin, Amazon stock in 2001, etc. Think of how many you don’t hear from that lost much more. Casinos weren’t made on the backs of winners, and if you are a JoeSixPack like me, we need a sounds strategy for investing in stocks for the future.
Essentially, a mutual fund is a big pool of money that you are entrusting to a professional portfolio manager to invest on your behalf. While you are getting around the issue of losing all your money if a business goes under, there are still other risks.
The first risk you may encounter is the person you are trusting to handle your money. There have been many scams throughout the years of individuals with impeccable track records for investing who are highly sought after! Come to find out, they are frauds and wind up serving time in prison, and the folks who invested are out of money.
Now the industry is much more regulated, so if you go with a legitimate fund that is ranked by Morningstar or other research (do your research!) you most likely are not being scammed.
However, the biggest drag on your earnings now would be what is called the “load” or “fee/expense ratio.” A load is usually a fee you have to pay just to invest in a fund! These are rare in many mutual funds, and I wouldn’t invest in a loaded fund.
The more common drag on your portfolio is called an “expense ratio.” The mutual fund companies need to make a profit, so in exchange for managing your money, they will take “X” percent of your money to manage it. Doesn’t sound terrible if you really don’t know what you are doing, however you will have to do research to even find the best funds!
The Cost of Expense Ratios
There is a calculator on Nerdwallet that I will link here. You can plug in some basic numbers and it would show you how much an expense ratio of just 1% can affect your portfolio over the years.
According to the numbers, starting with $10K, and adding $10K per year for 30 years, with a 10% rate of return from stocks, let’s see the damage of that measly 1%:
The cost ends up being $365,000 over the 30 years. Ouch. That would have been an extra 18% added to the total investment. I mean, they still ended up with 1.6 million but this isn’t the ideal strategy in my opinion.
Index Funds- The Real Stocks for the Future!
Index funds are similar to mutual funds in the sense that you have a collection of stocks in a fund. The difference between index funds and mutual funds is that in an index fund, you are just buying everything. In a Total Stock Market Index fund, you are buying a sliver of every publicly traded stock. Essentially, you are buying the American economy as a whole.
There is no worry about individual stocks tanking your entire investment. Nor is there any worry about some guy/gal defrauding you and stealing your entire investment. Nor is there a concern about the expense ratio, since index funds are buying everything, there is very little overhead.
There are different index funds for various sectors: Total Stock Market (everything), SP 500 (the 500 biggest companies in the US), Mid-Cap, Small-Cap, Real Estate, etc.
I purchase mainly the Total Stock Market funds and just buy everything. It all depends on what is available in my retirement account fund by my employer. If an SP500 fund is only available as an index fund, I will take that. However, my preference is to own the entire US economy.
Index Fund Performance
If we take a look at Vanguard’s Total Stock Market Index fund (VTSAX), it has a 0.04% expense ratio, with a good history of growth.
In our previous example, the bond index fund went from 10K-14K in ten years. The stocks have grown from $10K to $37K in ten years! When I advocate for investing in stocks for the future, this is what I am talking about. If you put that 10K in and forgot all about it and woke up in 2020, you would have made $27K and did nothing.
Now the average per year for this fund is 7%-8%, and this is a nice number because of the recent stock market run. There is no guarantee that the next 10 years will have the same performance. However, remember we are investing for the future! If you need the money sooner you might not want all your money in an Index Fund of stocks!
Index Fund vs. Mutual Fund Debate
Index funds are ideal stocks for the future in my opinion. Let’s look at some date. A study done shows that “over the last 15 years from June 30, 2003 to June 30, 2018, only one in 13 large-cap managers, only one in 21 mid-cap managers, and one in 43 small-cap managers were able to outperform their benchmark index.”
So, over the last 15 years, hardly any of the professionals were able to beat the market. What makes you think that you are going to pick the 1 out of 20 of the correct funds? I’m sure if you doubled that time period over 30 years, the number would be even smaller, if not zero.
Why gamble, when you can just own the market and plan for a 7%-10% annual return on average without much work at all? You are eliminating the risk of losing your entire chunk of money, eliminating the risk of a devious individual stealing your money, and eliminating the risk having your portfolio whittled down due to fees from money managers who likely won’t give you better results.
How the Average Joe wins
The Average Joe wins by making smart decisions in stocks, knowing how to play financial defense and maybe having a budget? Supercharging their investment cash with house hacking. Side hustling for extra cash if needed. Then investing the surplus continually in a relatively safer long term option like index funds.
This individual would be getting the equity paydown on their property, free rent, potential property appreciation, and the hassle-free growth of stocks for the future. This person is setting themselves up for great financial success, and it doesn’t require hiring anyone, getting an MBA, or 30 years in the financial sector.
It does require some discipline, a little research, and some hard work to get your snowball rolling. After that, it can be set on automatic and after a few years, your portfolio will start doing the heavy lifting for you!
You don’t need to be a Day trader, learn about options, invest in bitcoin, gamble, or buy anyone’s $1000 course. By investing in stocks for the future, you add another dimension to your portfolio to help secure your financial future. While this article is not the end all guide, there are 400 page books written on investing! It should give you a good financial basis to continue to research and make smart decisions with your future!