Whilst it is a given that investing as early as possible for longer term goals is the best way to build funds for the future, it is often difficult for younger people to do so. They face many challenges that older people do not. Understanding these challenges will help to identify routes to negate them, or at least cut them back as far as possible to enable earlier investment.
Many people in their 20’s are fresh out of college and starting their first job. Increasing amounts of debt are carried by graduates, and this debt has to be supported and serviced by what could be a low first wage.
Whilst the hope will be that the gaining of a degree, coupled with a strong work ethic will lead to a higher than average salary throughout one’s career, there are few companies willing to pay top dollar to the new employee. For this reason, money is often tight and disposable income is spent on pleasure rather than saving for retirement.
Another problem that younger investors face is the lack of experience with money and investing. Financial control is not a subject covered with great conviction in general education. It can take many years, mistakes, and ‘self-education’ to learn control over budgets. The temptation of youth is a financial as well as a moral concern! Learning how to invest, and avoid too-good-to-miss investment scams, is also on the agenda at this time.
Finally, many in their 20’s start relationships, get married, and have children. This is another pull on finances, and the needs of today often outweigh concerns for the future.
It’s not all bad news for though. One of the main advantages of being so young is that of time. An investor in his 20’s has time on his side to learn about investments and different assets. Being technology adept, younger people are more able to focus time on studying, research, and can quickly learn how to use investing and trading tools.
Younger people can also afford to take higher risks with the potential of higher rewards: any losses can be more easily made back the longer there is to do so.
Because the investment time frame is so long, a 20-something investor will need to commit less money now to enjoy a larger pot at the time he needs it. $10,000 invested by a 20 year old will have grown to $70,000 by age 60 if it accrues at a rate of 5% per annum. The same sum invested at age 40 would only have grown to $26,000 at the same rate of growth.
The difference is even more dramatic when it comes to regular investing. For a 20 year old able to invest $1200 each year over a period of 40 years will yield a final fund of $150,000. A 40 year old investing the same amount for 20 years will find himself with less than $40,000. (Again, based on a rate of return of 5 %.)
Learning to budget and control costs when in the 20’s is the key to successful investing for the future. Whilst it is a dream of many to invest a lump sum, good returns can be achieved by investing little and often, allowing the investor to benefit from dollar cost averaging in his investments. A further benefit of investing this way is that saving becomes part of everyday budgeting: smaller amounts are forgotten as just another expense.
Also taking the time to study markets and investment opportunities will not only make for better investment decisions now, but also in the future.
How to invest
It is important that savings are made toward both longer term (retirement) goals and also for accessible cash in emergencies.
Whilst emergency cash can be deposited and built up in savings accounts, a brokerage account will give the potentially higher returns of stock market investing whilst at the same time leaving funds accessible pre-retirement.
Retirement accounts, such as 401k’s and IRA’s, have tax advantages not available to brokerage accounts. For retirement investment planning these tax benefits will help investments grow more quickly.
Whilst it is likely that portfolios at a younger age will be targeted toward capital growth, young investors should not discount the power of investing in dividend paying stocks and then reinvesting those dividends. Compounded returns can mount up over a period of time.
What to invest in
With fewer responsibilities and time on his side, the 20-something investor can afford to invest in higher risk/ reward stocks. Speculative or high growth companies, perhaps new, smaller companies that are geared towards today’s technological economy can provide great returns (but the investor shouldn’t forget the risks).
Perhaps first, though, with little disposable income available and the high likelihood of a low level of investment knowledge, investment decisions should be left to experts. For this reason, many starting out investors will put money into diversified mutual funds, letting fund managers select value stocks in which to invest. Different funds cater for different risk tolerances, and higher risk/ reward funds are readily available from most providers.
Some investors will broaden their investments through time as financial ability grows; others will find they are happy to remain invested in mutual funds.
To Finish Up
Planning for your financial future has never been more important or relevant. Government support for retirees is likely to reduce over the coming decades, and it will be those individuals who begin the retirement investment process early who will be the winners.
It shouldn’t be forgotten that there are other calls on money throughout your life, and wise investment now will mean less need to borrow in the future at unknown rates of interest. A good investment plan will enable spare cash to grow to fund future college fees for your children, foreign holidays for you, and even build the deposit required for your first home.
Learning to budget and investing early is the key to future financial freedom. While you are young and able to take a more aggressive investment stance, the opportunity for capital growth is at its greatest.