I’m sure there are investment brokers worth their high commissions and fees, but I haven’t experienced one. I burned through five brokers before realizing that no one cares as much about my money and my future as I do. Brokers are salespeople. Naturally, they care more about their bottom line than mine.
Most people I coach don’t realize that they’ve been paying a 5-6% sales commission every time they buy new mutual fund shares because the commission is built into the price, making it difficult for the investor to “see” it. And paying a sales commission has nothing to do with the performance of a fund; you aren’t buying a better fund simply by virtue of paying more for it.
Each year, I’d compare my broker-managed portfolio’s performance with the stock market indexes (Wilshire 5000, S&P 500, Dow Jones Industrial Average, NASDAQ, MSCI EAFE, etc.). I found that despite paying a decent sum to brokers for their expertise, my portfolio usually under-performed the standard index benchmarks. In 1999, I decide that it was worth my time and energy to learn how to manage my own investment portfolio. My efforts have paid off very handsomely. Here’s a down-n-dirty summary of what I’ve learned:
1. Start Today
Start as early as possible to take advantage of the astounding power of compounding growth. By reinvesting the gains you receive from the money you invest, you can double your money in less than eight years assuming a 10% average annual return. Take a look at the following example, then try this calculator to see how much postponing your savings plan could cost you.
Save $10,000 per year for 30 years
@ 10% annual rate of return
= $1,809,434 ending balance
Postpone saving for 10 years, then save $10,000 per year for 20 years
@ 10% annual rate of return
= $630,025 ending balance
Cost of waiting = $1,179,409
2. Put Your Investment Contributions on Auto-Pilot
Instruct your bank to automatically transfer at least 10-20% of your gross income to your investment account each month. If you don’t think you can afford to do this then you can’t afford your lifestyle! Get creative, cut expenses elsewhere, and start paying yourself first.
3. Maximize Retirement Account Contributions
How taxes are applied to an investment can make a big difference in the long run. There are tax advantages to retirement accounts which is why (in most cases) you should maximize your contributions to these accounts first, then add to your taxable accounts. Additionally, some employers match your contributions — which equals free money. This calculator compares a normal taxable investment to two common tax advantaged situations: 1) an investment where taxes are deferred until withdrawals are made, and 2) an investment where taxes are paid on money that goes into the account but all withdrawals are tax free.
4. Be Mindful of Fees and Do It Yourself
Invest $10,000 each year and use a broker to place your order and you might pay $575 per year in sales commissions. Alternatively, learn to place investment orders yourself and your commission savings, compounding 10% annually, would be an extra $104,042 in your pocket in 30 years. Invest in a low-cost equity portfolio using no-load mutual funds, Exchange Traded Funds (ETFs) and index funds. Even a small difference in the fees you pay on your investments add up over time. Use this calculator to see how different fees can impact your investment returns.
5. Diversify and Build a Balanced Portfolio
Speculative investments are like eggs: when they fall, they make a mess. Don’t place your bet on a single stock or sector. Spread your risk into a variety of market caps and styles as well as domestic, foreign and emerging markets. Proper diversification helps your portfolio weather any ups and downs the market can take. Asset allocation accounts for 94% of the variation in portfolio returns, while market timing and stock picks account for only 6% (Gary Brinson, Randolph Hood and Gilbert Beebower). Review and rebalance your portfolio annually to maintain your desired allocation percentages. The Asset Allocator calculator is designed to help you create a balanced portfolio of investments. Your age, ability to tolerate risk, and several other factors are used to calculate a desirable mix of stocks, bonds and cash.
6. Don’t Invest Money You Can’t Afford To Lose
Rises and falls in the stock market are normal and frequent. Don’t invest your emergency fund into the stock market because you don’t know when you’ll need to use it. Money you may need within the next few years doesn’t belong in the stock market either. Investing for portfolio growth is your long-term goal.
7. Cover Your Ass
Protect your growing wealth with adequate insurance. The number one cause of bankruptcy is major medical expenses. In addition to medical insurance, consider coverage for disability, life (consider a term policy rather than whole life), auto, homeowner/renter, business, and personal liability. Buy policies with the highest deductible you could afford to cover from your emergency fund — and invest what you save from the reduced rates.
8. Understand Your Assets and Liabilities
Most people consider the home they live in as an asset but the truth is, it’s a liability. And if you are counting on future home appreciation, it’s speculation. Stop thinking of your home as a savings account. Don’t believe the sales-pressure hype that homeownership is your best investment: you’re spending money on a property that isn’t producing income. If you insist on owning real estate as a part of your investment portfolio, buy an investment property that produces a positive monthly cash flow.
If you’re finding it difficult to squeeze your budget for investment contributions, downsize to a smaller home. Invest any remaining home equity, plus your new-found monthly savings, into your long-term-growth portfolio.
9. Don’t Invest Until You Understand
Question every piece of advice you are given through the filter of “what’s in it for them?” Unfortunately, there is no shortage of people who are skilled at separating you from your hard-earned money. It pays to be suspicious. If you aren’t committed to learning how to self-manage your investments, consider hiring a FEE-ONLY financial adviser (rather than a commissioned-sales broker) to assist you.
What I’ve offered today is a summary. I’ve shared my opinions and experiences. But don’t just take my word; ask questions and read investing books and web sites. Learn about different investing strategies and styles, assess your own personal risk tolerance, make a plan, then stick to it. Use your head — not your emotions — to guide your decisions. Practice investing first, using virtual online applications (not real money), as you wean off of your high-commission broker.