What is the one investment tip I would give to people in their 20s? Avoid the shoot-the-lights-out mentality of investing.
Younger people, particularly men, want to find the next great investment so they can turn $500 into $1 million overnight.
Everyone dreams about picking the next great stock whether, that is Google (GOOG) or Facebook or, back in the good old days, Microsoft (MSFT). For younger investors, avoid the get-rich-quick mentality and instead adopt a slow and steady approach.
I know this is not the sexy approach to investing. We all hear the cocktail chatter about how someone made a killing on this stock or that stock. In reality, the storyteller is likely using their selective memory only to mention their winners. They never mention their losers — the Internet startup that went bust.
The shoot-the-lights approach to investing is oftentimes an all-or-nothing bet. The thinking is that “it is only X dollars, so it is OK if my investment goes bust.” But investing $1,000 a year wisely can turn into real money.
For example, assume a 25-year-old invested $1,000 each year into a brokerage account. Also assume that investor earned a net return of 6%. After 40 years they would have about $155,000. The “it is only $1,000” mentality can cost investors real money over time. The reality is, the hot idea you put the $1,000 into generally won’t pan out so well.
So how does one adopt a go-slow approach to investing? Very simply, by saving a regular amount and investing it in low-cost investment vehicles. My suggestion is to use a broad-based index mutual fund or exchange traded fund. Mutual funds may not work for young investors, as there is usually a several-thousand-dollar minimum initial investment per mutual fund.
While ETFs do not have a minimum investment amount, they typically have a trading commission for each purchase and sale — relatively low at $8 per trade, but an $8 commission on a $1,000 ETF trade equates to 0.8%. Fortunately, many of the large financial firms, such as Fidelity and TD Ameritrade, now offer certain ETF commissions for free.
A young investor could create a well-diversified portfolio by buying just two commission-free ETFs — the iShares MSCI ACWI Index Fund(ACWI) and iShares Barclays Aggregate Bond Fund(AGG). The first invests in equities here and abroad, giving the young investor broad global equity diversification. The second gives a young investor a broadly diversified U.S. fixed-income investment. Best of all, the blended annual operating expense ratio for an 75% ACWI/25% AGG portfolio would be just 0.32% per year.
Even cheaper options may exist, so shop around for the firm offering the best slate of commission-free ETFs.
Forget about stock picking, young investors, and be broadly diversified. Instead of having to continue monitoring specific stocks you can spend your free time doing something much more enjoyable, like spending time with family and friends.