You’re a Main Streeter. You’ve opened a checking and savings account with your local Bank of America and have nailed down the art of the my-bank-account-is-empty phone call to Mom and Pops. You also have a credit card, and after innocently abusing the privilege of having a $1500 credit line, you’ve learned to rein in your spending habits…for now. And your biggest investment to date? The ’01 Mazda you bought at the local dealer with your own cold hard cash (OK, maybe the ‘rents did chip in a bit for each monthly payment).
But lately, you also notice that you’ve been hearing quite a bit about a particular Wall Streeter who seems to always be the center of inhibited (and uninhibited) notoriety. You’ve heard the word “hedge fund” being thrown around on CNBC perhaps and wondered exactly how anybody could pocket 75 million a year in paychecks and still have time to sit down for three square meals everyday. But mostly you’ve wondered – what exactly is investing, and Gee – seventy-five mil in a year? Could I be doing this?
Well, not quite – at least for now. You’ll have to get some Investing 101 chops first, which is where Her Campus cues into the scene. It’s hard enough managing your own finances as a college gal or a new grad – you’ve got student fees, loans, monthly rent, utilities, book purchases, and everything in between to pay down. And you might think that you have neither the means nor the time to start and maintain a portfolio, but wait a bit before bouncing from this page.
As a student in your twenties (or exiting the teen years), now is the time to start thinking about investing. The sooner you start and the more informed you are about your personal balance sheet and portfolio, the more secure you will be once you start thinking about purchasing a home, perhaps starting a family, dealing with job changes, and eventually retiring. Here is HC’s guide on how Gen Y Main Streeters can play the market to their benefit:
Why should you invest?
Because the power of compounding can either make or break you. It’s as simple as that, really. What is compounding, and what exactly does the phrase “putting your money to work” mean? To set an example, say you have a hundred bucks in hand at the age of 20. Assuming you’ve already had your share of Urban Outfitters sales this summer and are looking to hole away this capital, you find yourself faced with two choices: putting the $100 in a savings account, or investing this in an index fund (we’ll get into what those are later). According to Learnvest.com, savings accounts nationwide have an annual average return of 2.64%. On the other hand, economists estimate the average return on the index investment to be 8.5%.
In a world sans inflation, your $100 would become $102.64 after year one with the first option and $108.50 with the second. The $5.86 difference might not matter (at MOST, it might get you a few extra Starbucks lattes), but stick around for this next bit. Say you decide to keep your money in the account. During year two, you not only earn a return on the $100 you originally invested (called the principal), you also add whatever interest you earned from year one to this principal. So, with the savings account, you’ll earn another 2.64% interest on $102.64 and with the index fund, you’ll pile 8.5% onto the $108.50. That’s, compounding.
Now fast-forward 30 years. By now you’re 50, perhaps an empty nester, and worrying about your retirement savings. You head to your local bank to withdraw the $100 you originally stashed – and discover it has grown into $220.58. You give yourself a slap on the back and walk away. In another world, you walk to your local broker’s branch and withdraw that same $100 – and (wait for it) $1,269.24. That’s right – nearly a thousand smackers more than what you would have received had you chosen the first option.
This is the most basic scenario of putting your money to work for you, but it illustrates the power of using investment vehicles to grow your money. Remember, the earlier you begin, the more you’ll ultimately earn from the elegance of compounding.
Myths of the Trade
Before you’re ready to start investing, you’ve got to get some untrue but commonly believed myths out of your head.
- Investing is gambling – I might as well head to Vegas or buy some Mega Millions tickets. Investing is the act of purchasing a security because you believe its value will rise over time. It’s making a bet on a specific firm, or a specific aspect of the market. For example, if I buy 10 shares of Apple stocks today, it means that I am confident that in the future (whether this be short- or long-term), the value of those stocks will rise because Apple will be able to generate more revenue and become a more profitable enterprise (perhaps more iPad sales). This is betting based on a rational perspective and knowledge of the markets – not gambling.
- Investing is for the Guys and Gals of Wall Street – not a Main Streeter like me. The reason why those Guys and Gals of Wall Street actually have money to invest is because Main Streeters like you choose to allocate your income towards mutual funds, or pension plans, or stock purchases. Investing, as a practice and a cultural phenomenon, has migrated from the enclaves of Wall Street into the living rooms of Moms and Pops looking to save money in a wise way. Investments come in so many different forms and sizes that there really are options for everyone, which brings me to Myth #3.
- I thought stocks were synonymous with investing. What else is out there? According to a 2008 estimate, the stock market makes up less than 5% of the total market for global securities (which is just another word for an investment vehicle). There are tons of other investment vehicles out there – corporate bonds, real estate, mutual funds, retirement accounts, index funds, Treasury bonds, and the list goes on. The biggest investment most Americans will make over the course of their lifetime is the purchase of a home. Next in line are the monthly payments one could make towards a retirement fund or a pension plan as well as the mutual fund category that has grown in popularity over the last few decades.
Hit the Ground Running
To be a savvy investor, you not only need to start early but you also need to know who you are as a person and read up a bit on financial news. You don’t have to be an obsessive number cruncher to do this either – you just need to be a normal person who understands how much risk you’re willing to take on your investments and how much extra income you have left over after rent, utilities, and Friday nights at a dive bar to bank towards a portfolio. Here are a few pointers to get started:
- Friend Bloomberg (the news service, not the man), and then begin browsing sites like Investopedia, The Business Insider, and Learnvest. While you have to pay for a subscription of The Wall Street Journal and Financial Times, you’ll be able to access all four of the above publications for free. Bloomberg is probably the Granddaddy of online financial journalism -- timely news scoops in understandable prose (any financial jargon is often explained) along with basic graphs if you are so inclined. The Business Insider, a comprehensive blog gives you much of the same news – with the right servings of sarcasm and tantalizing humor added. Learnvest has a great Investing How-To section on their site specifically catered to those who seek financial literacy in easy-to-digest steps and Investopedia offers the same thing (in its Tutorials section) for those seeking a more in-depth and panoramic knowledge base on investing.
- If you haven’t already (and you’re out and about on the job force), set up a 401K retirement plan with your employer or a Roth IRA. Contribute the maximum that your employer is willing to match – consider this to be free money to be saved for later when you really need it.
- Open an investment account with a brokerage firm. These firms offer the average investor a chance to choose amongst a number of different investment options while providing personnel to assist you on your choices. Learnvest recommends that a novice investor begin by setting up a portfolio at TD Ameritrade, Fidelity, or ING Direct. Note: don’t use an online platform like E-Trade.
- How old are you? How much do you have in your current savings account? What is your (expected) annual salary? How much of it are you willing to risk? Again, I have to emphasize that investing is NOT gambling, but certain investment vehicles carry more risk than others. And the more you’re willing to risk, the higher your returns may be. But whether you can afford that risk depends on your situation. To illustrate, if you’re 23 and struggling to pay up the landlord at the end of the month, you shouldn’t consider putting your money down for anything too risky, such as growth stocks (representing mainly start-ups with uncertain future growth). But if you’re 30 with a secure job and declared debt-free, you have a little more room to wiggle.
On the topic of risk, Lauren Cole of Learnvest says, “because investing involves a certain amount of risk, I only recommend investing for goals that are five years away or more. Tune out the media hype when it comes to investing. Long-term the market will go up, so don't worry if you hear a lot of dooms day talk from the press. They're just looking for a good story for the day."
Diversify, diversify, diversify: It pays to spread your money out amongst stocks, bonds, mutual funds, etc. That way, when one part of the market dips in value, your entire portfolio doesn’t dwindle down the drain.
For more on which investment vehicles might be appropriate for you, click here for a short description.
Lauren Cole, Learnvest