How to Invest Your Money: 10 Smart Steps to Make Money Grow
So, you want to invest some of your money, but you have no idea how to start? No problem. This handy 10-step guide is loaded with useful resources to help you get started.
|How to Invest Money © CreditDonkey|
After all, if you want to build real wealth, you've got to make your money work for you.
Investing might sound complicated or even impossible to understand, but it doesn't have to be. Read this simple guide to learn how to cut through all the jargon, so you can start investing wisely and confidently.
Why Now is the Best Time to Start Investing
The earlier you start investing, the more time your money has to grow. But not only that - the gains (AKA earnings) that you make early on start producing their own gains. This results in money that grows quickly. This is the magic of "compounding gains".
But it's not enough to simply understand why you should invest early in life. You have to understand the how as well.
Ultimate List of the Web's Best Advice for Beginners
In this article, you'll learn about investing from the ground up. We've also compiled a list of the best resources to help you in this investment journey, which are presented as links at the end of each section. They are a great place to start if you are looking for more detail on a certain topic after reading this article.
Scroll down to continue reading or click a specific topic below to jump to that section.
- Risks of Investing
- Budgeting for Investing
- Investing vs Gambling
- Investing vs Saving
- Long-Term Investment Goals
- Selecting a Brokerage
- Selecting Investments
- Understanding 401(k) Investing
- Understanding IRA Investing
- Understanding Other Types of Investment Accounts
Risks of Investing
We're not going to sugar coat it: investments can of course be risky. They can go down in value. You could even lose all the money you've put in.
Scary? Yes. But there are ways to keep the risk low.
One way is to limit your risk is to invest only in more stable options, such as index funds and mutual funds, or to do a mix of low-risk and high-risk investments.
We've all heard the phrase "don't put all your eggs in one basket". This particularly can be applied to investing. For beginners, the best thing to do is to diversify your portfolio. Have a larger percentage in lower risk investments (like mutual funds and ETFs), and a small percentage in higher risk, higher rewards investments
Of course, the safer investments typically won't offer the same potential rate of return that a higher risk investment does.
The links below are great resources for understanding risk as it applies to investing:
- Five things to know about investment risk - U.S. News
- Investment risk tolerance quiz - Rutgers University
Budgeting for Investing
When you're ready to start investing, set a budget for any investments you plan to make, the same way you would for bills, groceries, and car payments..
Think of an investment just like you would any other type of expense. It shouldn't be something you only do when there's money left at the end of the month. Even putting a small amount aside for regular investing can make a difference, especially if you're able to start at a young age.
Think there's no way you can invest on your tight budget? These articles might help change your mind:
- Nine ways to invest on a small budget - U.S. News
- How to invest on a shoestring budget - Investopedia
- Investing and money management basics - MetLife
Investing Vs. Gambling
Because there's inherent risk involved in investing, it may feel a little like gambling, especially if an investment takes a dip during a tough day for the markets.
But the difference is clear if you understand it correctly. Gambling is about making short-term choices, usually on games of chance. Buying stocks at random without researching or understanding the trends is the same as giving your money to a dealer or slot machine.
Investing is when you take the time to make smart selections based on your long-term needs and goals. You're not making choices on whims or guesses, and you can choose investments that don't carry a ton of risk. Plus, if something isn't going the way you want, you can always make adjustments.
For more takes on gambling vs. investing, check out these helpful articles:
- Investing is not the same as gambling - Forbes
- Three signs you're gambling, not investing - Yahoo Finance
- Sports betting vs. the stock market - CNN
Investing Vs. Saving
A penny saved is a penny earned... Or is it?
You'll often see the terms "investing" and "saving" used interchangeably. But they are not the same thing.
When you invest your money, that figurative penny saved could return earnings a lot bigger than if it's just sitting in your sock drawer.
Saving is the act of putting aside cash you have earned. You usually save for shorter-term goals, like a house or a vacation. You usually have quick and easy access to your funds (like a savings account). You can withdraw your savings whenever you need to without penalty.
When planning for long-term goals, however, investing your money goes a lot further. Investing is when you put your money into assets (whether that be stocks, metals, or a house) that will hopefully grow over time.
We recommend a balance of both. Save to build up an emergency fund and for short-term goals, and invest for your long-term future.
For more about the difference between saving and investing, check out these articles that we found interesting:
- Differences between saving and investing - SEC
- Saving vs. investing, is there a difference? - Vanguard
- Saving money or investing - Bankrate
- Saving money vs. investing money - About Money
Long-Term Investment Goals
Your long-term investment strategy will be much different from your short-term strategy. Because you have more time, you can afford to take more risks. Ups and downs are bound to occur, but you'll have time to ride these out.
The downside is your money will be tied up. So it's important not to invest funds that you need for day-to-day expenses or funds that you may need in the next several years.
Investing is best used when saving for things like your retirement, your child's college education, or a down payment on a vacation home that you want to purchase a decade from now.
In the links below, you'll get even more valuable information on long-term investments:
- Set a time frame for your financial goals - FINRA
- Five principles for long-term investments - TIAA
- Setting short-term and long-term goals - Capital One
- Calculating investing goals - Charles Schwab
- High-yield savings account: A savings account is best if you may need access to your money. Here are some of our top picks of online savings accounts with high interest rates.
- A CD (Certificate of Deposit): This is a very secure way to store your money. A CD will have a fixed term, so you cannot withdraw the money before the term is up. But to reward you for the commitment, the interest rate will be higher. Here are our picks for CDs with the highest interest rates.
Note that these investment options will not make you rich. But they are safe options for you to store your money, while earning a bit extra in interest.
Selecting a Brokerage
When you're ready to begin investing, you'll need a brokerage to set up and hold your investment account. Think of it like using a bank to hold your bank account.
Some brokerages specialize in certain types of investment accounts. But most of them offer any kind of account or investment service you'll need.
- If you want to manage your investments yourself, online brokerages give you nearly full reign.
- If you need guidance, a full-service brokerage will offer advice and personalized service for a fee.
- If you want to be completely hands off, robo-advisers use a computer algorithm that selects investments for you. The fee is lower since there's no human adviser.
- Some banks and insurance agencies are also licensed as brokerages.
- With a 401(k) account, your company usually will have selected the brokerage for you.
It's okay to just start investing with a small amount of money at first. Brokers such as TradeKing and Ameritrade have $0 minimum deposit, so you can start with as little money as you'd like. If you like the sound of a robo-adviser, Betterment also has no minimum required.
For solid tips on how to find the right brokerage for you, check out what these experts think:
- Choosing an investment professional - FINRA
- Selecting brokerage services that fit your needs - Washington State Dept. of Financial Institutions
- Picking your first broker - Investopedia
- New investor's guide to brokers - About Money
For example, let's say you want to invest $6,000 into a particular company. Instead of doing it all at once, spread it out over a year - 12 investments of $500 each. This way, if some months the price goes up, you buy less shares. And if the price drops, you buy more shares. This reduces the impact of a volatile stock and levels out the risk.
Before you make any investments, you need to get the terminology down.
- A stock is a direct investment in a company. This type of investment takes more effort to research and analyze as stocks can go up and down quickly.
- A mutual fund is a collection of stocks. It diversifies your investment across several or even hundreds of companies, thereby reducing risk.
- An ETF (exchange-traded fund) is similar to a mutual fund in that it holds a collection of stocks. But it trades like an individual stock. (Mutual funds have limitations on how and when they can be traded.)
You also can invest in bonds, money market accounts, savings bonds, annuities, CDs, real estate, precious metals, and other vehicles within certain investment accounts.
If you're just starting out, we recommend investing in ETFs and mutual funds with a small percentage in stocks.
Check out these links more on selecting the right investment for you:
- What are my investment options? - Duke University
- Investment types and terminology - Wells Fargo
- How to select investments - U.S. News
- Investment types explained - Charles Schwab
If you're interested, Lending Club and Prosper are the two largest peer-to-peer lending platforms.
Understanding 401(k) Investing
Many young adults are introduced to the world of investing with a 401(k) account at work. This type of account helps you save for retirement by automatically setting aside money from your paycheck into a retirement account.
This is a great way to invest for several reasons. For one, the money is not taxed until you take it out of the 401(k) account, which is usually when you are retired and in a lower tax bracket. (If you withdraw the funds earlier, you'll pay a penalty and more in taxes).
Many companies will match a percentage of what you contribute as well. This is literally "free" money, so make sure to take advantage of it if your company does matching. Keep in mind that 401(k) accounts do have limitations on how you can access the money and how much you can contribute each year.
For more on 401(k)s, check these out:
- Starting to invest with 401(k)s - CNN Money
- 401(k) investing basics - FINRA
- Tools to better understand your 401(k) - U.S. News
- What is a 401(k)? - The Wall Street Journal
Understanding IRA Investing
You can supplement your 401(k) earnings with an IRA (Individual Retirement Account).
Like a 401(k), IRA accounts come with tax benefits. You can hold an IRA at the same time you have a 401(k). But there's a limit on how much you can contribute each year. You also have to be within a certain annual income to qualify for IRA contributions.
Different types of IRAs have different benefits. Roth IRAs are contributed with money that has already been taxed. So you will not be taxed again when you withdraw, not even on your earnings. A traditional IRA doesn't tax upfront, but taxes your earnings when you withdraw your funds. If you change jobs and must take your 401(k) account proceeds with you, you can use a rollover IRA to maintain the tax breaks of the 401(k).
For more detail on IRAs and how they might work for you, check out what these experts have to say:
- Understanding IRAs - Charles Schwab
- What is an IRA? - Fidelity
- Basics of an IRA - CNN Money
- Seven reasons to invest in an IRA - U.S. News
- IRA center - Wells Fargo
Understanding Other Types of Investment Accounts
Some people need investment accounts other than the popular 401(k) or IRA. If you're self-employed, you can use an SEP-IRA in lieu of a 401(k) to obtain tax breaks.
Those saving for their child's college will want to consider a 529 college savings plan. This account offers huge tax breaks, as all earnings are tax-free. You just have to make sure your contributions remain below the federal gift tax limits.
Or maybe you want to invest money for another goal or without limits. In this case, a general brokerage account is your best bet. Just be aware that you will have to pay taxes on any gains you earn every April 15.
For more on those other investment types, see these articles:
- Investment account types - Vanguard
- Types of accounts and investments - Fidelity
- Account types - Scotttrade
- Benefits of non-retirement investment accounts - T. Rowe Price
These types of "investments" will not only NOT make you money, but risk losing your hard-earned money.
There's no pressure to start investing while you're getting up to speed on the terms and what they all mean. Take your time to truly understand what you're about to do. Hopefully, we've helped steer you in the right direction with this beginner's guide.
Of course, you're never too old to start investing, but the sooner you start, the sooner your money can start working for you.
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