I admit it…I don’t find investing as sexy as many people do. And I have seen the experts beaten too many times to get attached to any particular method, other than don’t-put-all-your-metaphoric-eggs-in-the-same-asset-class.
But I DO have some rules of thumb, some guidelines that I try to follow before recommending that someone take their hard-earned cashola and drop it on the current hot stock.
Is your consumer debt paid off? I never recommend a person start investing outside of their employer plan until credit cards are paid off and balances aren’t a recurring issue. If you’re ambiguous about what you’re doing with your credit cards, chances are, you might have the same ambiguity with investing decisions. And yes—right now you might be able to make a higher return than you’re currently paying on credit cards, but that is before taxes, and it doesn’t speak to the behavioral issues that come with credit card balances.
Do you understand your cash flow? I always recommend that even if you’re not interested in where every single dollar of your money goes, you still track what you spend on average; what is your monthly nut? Even with this information readily available on bank statements, people still underestimate what they are spending. ALL OF THE TIME.
Do you have at least $5,000 in cash? Even if you have a steady paycheck, $5,000 in cash reserves will cover almost all minor catastrophes (actually, studies show that $2,000 should do it, but I say hey, if you’re thinking about investing, have MORE than the minimum).
Sure, Suze Orman wants you to have 6 months in cash, but a lot of people don’t even have that, so at minimum, shoot for the first $5,000 before getting excited about investments. Otherwise, you might have to cash out investments at an inopportune time, should there be an emergency. And personally, I would rather be cash heavy and save MORE than the minimum for peace of mind.
Are your major expenditures covered for the next 18 months? What expenses are coming up in the next year and a half? Do you need to have a down payment for a new car? Going on a major trip? Need to replace a water heater? Before you start investing, you should be able to look ahead at the next 15-18 months and say to yourself, “Yep, got that stuff covered.”
Do you have your employer bases covered? Even thought it doesn’t feel like you’re investing when you do it, you probably already are investing through your employer (if not, do this before any other investing). Maybe you have a 401k, 403b, 401a, yadda, yadda, etc. To make sure you’re maximizing this area, before you consider investing elsewhere, make sure you’re doing three things:
- Get the free money. Invest enough in your employer plan to get the entire match they offer. IT’S FREE MONEY. Get that first.
- Get the discounts. Most employers offer a discounted price on stock through their ESPP (employer stock purchase plan). If yours does, take advantage of that next. You can always diversify out of it if being too heavily weighted in employer stock makes you uncomfortable.
- Take advantage of special benefits. One benefit I am seeing a lot lately is the ability for employees to save into their 401k in both pre-tax and post-tax dollars, essentially making the Roth option available to people who wouldn’t ordinarily be able to open a Roth IRA on their own (because of the income limitations). Switching your 401k to Roth might have tax consequences for you if you’ve been max-funding your 401k pre-tax, so you should definitely know what that means for you specifically, should you choose to avail yourself of this option.
Investing Outside of An Employer Plan
After those employer options, most people are done (exhausted, sick of me talking to them…) and don’t need any more advice. But if you’ve covered all of the basics and still want to know where to put your extra money (what an awesome problem to have!), then consider the following:
Start with at least $2,500. Most investment companies require $2,500 to open a new mutual fund, and if you’re doing stocks, this will give you a fairly good lot of shares in most stocks. You should feel like you have money to invest that isn’t earmarked for anything in the short term.
Know what the investment is for. Knowing potentially when you’ll need these funds will help you choose the best mutual fund to start (will I potentially need this in 3 years? 5 years? 10 years?). There are plenty of online tools at Vanguard and Fidelity (my two favorite investment places) that can help (that is, if you don’t want my help. Whatever.)
Automate as much as possible. Once you invest your lump sum, set up an automatic savings plan. Then, make an appointment in your calendar every 3-4 months to increase the automatic savings by $5-$25 per month.
Leave it alone. If you’re going to be freaking out over the market every week, then maybe you shouldn’t have this investment in the first place. If you can’t just ignore it and get on with your life, and trust that you have chosen correctly for the timeframe of the investment, then you might need professional help. But I meet A LOT of people who have done a great job of saving, and they tell me, “Oh yeah, I just chose a fund and started saving and didn’t think about it too much.”
Actions This Week
- Review your foundational items. Have you got your cash reserves, cash flow and debt organized?
- Review your employer plans. Are you getting all of the free money, discounts and opportunities available to you?
- Think about why you want to invest. If it’s just for fun, that’s great, but make sure you have all of your bases covered first.