How should I invest my money?
A common question asked by many and understood by few. More often than not, people believe they need to be stock picking and investing in fancy options. The finance industry makes it seem this way. This is far from the truth as you will soon find out. This article outlines a simple yet effective strategy for your to deploy your dollars.
First of all, I want to get this out of the way before getting any further. I am not a registered financial adviser, I am not a tax professional, I am merely stating my opinion based upon my undergraduate degree in personal finance, my work experience and the dozens of books and studies I have read on the topic.
There will be people that say you need to invest in penny stocks to make a radical return. Let them think what they want.
There will be people that say you need to have a large portion of bonds in your portfolio to stay safe. They are entitled to their own opinion.
It is life. There will be naysayers no matter what. Just know this, it is your money and your life which therefore means that these are your decisions. You are being responsible and making the right choice by self-educating to further your knowledge and formulate your own opinion on how your money should be invested.
Second of all, what do we always say about personal finance? That it is personal. There is not a one-size-fits-all approach since everyone has a completely different financial situation and risk tolerance. HOWEVER, the approach outlined below is a simple yet effective way of investing that has been proven to work for thousands of people.
On that note, let’s get to it!
How Should I Invest My Money?
As you probably guessed from my How I Budget to Save 65% of My Income post, I am lazy. I always like to do things in the simplest possible way. For me that means less stress and a happier Gina.
That’s not to say I don’t like to explore the more complex ways and strategies involved around a given topic, in this case investing. Rather, I prefer to learn but remember that for my life and my situation, simple is almost always the best choice.
If you are a follower of the Financial Independence Retire Early movement or really have any sort of interest in personal finance, you without a doubt have heard of this strategy.
I really enjoy how J.L. Collins, author of A Simple Path to Wealth outlines this strategy and compares it to his real life trials of stock picking. He states that although he became financial independent through stock picking and beating managers of active funds, he would have reached financial independence much faster and gained more money if he had discovered this strategy sooner.
The strategy entails investing solely in index funds. The simple idea is to invest in an equities index fund entirely while you are building up your wealth and then once you reach a point where you are no longer making investment contributions you will want to diversify by buying some bond index funds.
For example, in your 20’s you will want to be fully invested in VTSAX (Vanguard Total Stock Market Index Fund) but then once you reach age 40 and quit all cash flowing jobs, you will want to allocate a certain percentage of that money into VBTLX (Vanguard Total Bond Market Index Fund).
This differs from the traditional belief that your bond allocation should be determined based upon your age. The main reason for this is the FIRE movement has people retiring at all different ages, not just the typical 65 year mark.
The idea behind this is that once you are at a point where you are no longer contributing to your investments, you want to hedge the volatility of equities since you are more dependent on the income from these investments for any living expenses.
Bonds won’t be generating a mega return. Just think of them as your portfolios stabilizer since you will technically be living off of this income from that point on. We’re assuming you aren’t contributing at all, even though I know you side hustlers out there will always be working on some sort of project.
Say you are not comfortable waiting until you are withdrawing from your portfolio to allocate some money to bonds? That is totally fine!
Here is another rule of thumb you can use to estimate what percent of your portfolio should be bonds:
Take your age and subtract it from 110. That is the amount you should be invested in equities and the remaining percentage should be your bond allocation. For someone who prefers a bit more risk, swap 110 out for 120. For someone who is a bit more conservative, use 100 instead of 110.
Some other funds to consider investing in if you don’t want to be invested solely in 100% equities.
VTIAX Total International Stock Market Index Fund
Expense Ratio: 0.11%
Side Note: An Expense ratio is the amount of the total fund used to pay for costs like management, administration costs, etc.
Minimum Investment: $3,000
This is the minimum investment required to invest in this fund.
ETF Equivalent: VXUS (expense ratio 0.09%)
Although currently I am fully invested in US equities, I plan on adding international to the mix at some point in the future. That said, I am not rushing to do so. This article by Go Curry Cracker does a great job explaining the flaws in being invested in only US equities.
VMMXX Vanguard Prime Money Market Fund
Expense Ratio: 0.16%
Side Note: An Expense ratio is the amount of the total fund used to pay for costs like management, administration costs, etc.
Minimum Investment: $3,000
This is the minimum investment required to invest in this fund.
I personally do not allocate any capital into money markets at the moment because I am trying to take advantage of bonus offers for putting your money in different savings account.
However, money markets are a good spot to stash your emergency fund if you are not interested in bank account bonuses.
I compare bank bonus offers using Nerd Wallet’s Comparison Tool.
VGSLX Vanguard Real Estate Index Fund
Expense Ratio: 0.12%
Side Note: An Expense ratio is the amount of the total fund used to pay for costs like management, administration costs, etc.
Minimum Investment: $3,000
This is the minimum investment required to invest in this fund.
ETF Equivalent: VNQ (expense ratio 0.12%)
Since I own physical real estate, I do not feel the need to invest in any REITs (Real Estate Investment Trusts). I do not think they are entirely necessary for your portfolio to be honest but Millennial Revolution provides great perspective on why they invest in REITs in this article.
Some Extra Notes:
- I used Vanguard funds for this article because I prefer them. However, there are many other custodians you can use (Schwab, Fido, etc.), it all depends on your personal preference.
- This article by Nerd Wallet discusses average market returns. Since each index can represent a different market, your expected returns can be different for each index investment. Be sure to do your research prior to investing to see which is in line with your risk tolerance as well.
- Warren Buffett, CEO of Berkshire Hathaway and American Business (& one of the wealthiest people alive) has been quoted to say “If you invested in a very low cost index fund – where you don’t put the money in at one time, but average in over 10 years – you’ll do better than 90% of the people who start investing at the same time.”
Why Wouldn’t You Diversify With International Funds?
100% US Equities may sound risky to some. It sounds as if you aren’t diversified at all. But if you look at index funds, they are inherently diversified. You own a piece of the biggest companies in the US. Of course it differs by index fund but for most this would also mean owning companies that do in fact do international business (Microsoft, Apple, Amazon, etc.).
J.L. Collins discusses some other reasons why he believes there is no need to invest in international funds. His biggest three reasons are currency risk, accounting risk and the added expense.
Currency risk meaning that since the international currency can fluctuate against the US dollar there is another level of risk.
Accounting risk referring to the lack of transparency when it comes to accounting standards in other countries in comparison to the US.
Added expense means the actual expense ratio of international funds is larger than that of a US equity fund. For example, VTSAX has an expense ratio of 0.04% while VTIAX has an expense ratio of 0.11%.
Final Thoughts
All in all, if you invest simply then you are on the right path. Whether you are 100% US Equities or not, the more boring your portfolio is, the better.
Although this strategy is not fancy and can seem somewhat boring, it shouldn’t be discounted. Simplicity is key in all aspects of life. Why not keep your investment portfolio as simple as possible as well?
Let me know if you’re a fan of this strategy in the comments below!! đŸ™‚
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P.S. I am not a registered financial advisor, I am not a tax professional, I am merely stating my opinion based upon my undergraduate degree in personal finance, my work experience and the dozens of books and studies I have read on the topic.
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