I found a great article from Investment News (free registration required) about the effects of the recent economic turmoil on today’s young investors. The study found that of those surveyed, roughly half of the respondents said that they are more risk-adverse (more fearful of taking on risk) than they were a year ago. Additionally, those respondents, whose average age is 30, are as risk tolerant as current retirees.
Are Young Investors The Depression Generation?
This is a big problem. At age 30, you have 30-plus working years left until retirement. In order to retire comfortably, you will need to take on some risk. I’m not suggesting these investors should put all of their money into speculative stocks, but they need to at least be investing in the stock market. The difference they will earn by investing in stocks, roughly 8% annually compared to 2% in certificates of deposit is huge.
Not Understanding Rates of Return
If you are one of these investors, you may counter argue that with stocks, you could lose money, while with CD’s and savings accounts you cannot. Technically you are correct. However, when you include inflation in the mix, CD’s and savings account do lose money. If you are only earning 2% per year and inflation is 3%, you just lost 1% of your money’s purchasing power.
You may argue that losing 1% is much better than losing 20% in the stock market. Again, this is true. But investing in CD’s and savings accounts for 30 years will not offer you the return you need to grow your savings. With the stock market, you will not lose 20% per year. In fact, I challenge you to show me when in the history of the stock market there have been 20% losses per year for multiple years. You will have a difficult time, because it has never happened.
Take a look at the chart below. I have the rates of return of the S&P 500 index for the past 20 years as well as the rate of return for 1 year CDs over the past 20 years.
What happens if we invested $10,000 back in 1995 into each of these investments? We would have $20,520 from our CD investment and $65,620 from the S&P 500 investment.
But I want you to focus on the years 2008 – 2014. As you can see from the blown up portion of the chart below, after the stock market tanked in 2008, you would have had $25,212 in stocks. This is still more money than had you earned your safe return from CDs. You would have close to $6,000 more in the stock market.
From there, your stock investment would have ballooned over $40,000 while your CD grew by just $1,000.
Young Investors Action Steps
As young investors, if you want any shot at retiring, you need to educate yourself on investing. The biggest downfall in investing is giving into emotions. Fear and greed drive us to buy and sell at the wrong time.
When the market drops, we get fearful and sell. When the market has been rising, we get greedy and keep buying more. When you learn to control these emotions, you increase your odds of success in the stock market.
So how do you control these emotions? There are two methods I use:
- Long-term outlook
Educate yourself on how the stock market works. It works in a cyclical fashion, rising for a period of time and then falling for a period of time. Before you get excited and think you can time when to buy and sell based on this cycle, think again. No one knows when the cycle will change, or even how long it will last. Take a look at this chart as an example:
Trust me when I tell you that many investors try to time the market, only to screw themselves over. In this post I show you how the majority of investors that try to time the market end up earning 2% annually. Had they just stayed invested, they would have earned what the market earned.
This is where a long-term outlook comes into play. The stock market is volatile over the short term, but over the long-term, the market rises. Learn to focus on the long-term. A great analogy I love to use is to look at the waves from a passing boat. Right behind the boat the waves are high and choppy. But follow the waves out further and they get smaller and eventually fade away.
Look at the stock market in the same way. Today, tomorrow, next week, the market will be choppy. But over the course of 5, 10 or more years, the ride gets smoother. Look at the chart below. Pretty scary looking, right?
Now look at this chart. Not so bad is it?
The kicker is that it is the return of the S&P 500 Index from 1984 through 2014. The only difference is the first chart is monthly returns (short-term) and the second chart is annual returns (long-term). Focus on the long-term.
Of course, the media likes to make things a lot worse than they really are. This is how they make their money – they hook you in emotionally to get you to keep watching. The more eyeballs watching, the more they can charge advertisers. Because of this, you might have a tough time overcoming your fear.
Luckily, there is some help. One option is to hire a financial planner. Yes it will cost you some money, but that money spent is well worth it if the planner keeps you invested for the long-term.
At a previous job I had, a client told us he had paid us close to $100K in fees during the 20 years he was with us. He went on to say it was the best money he ever spent because he would never have been able to stay in the market and grow his wealth without us.
If you would rather not go with a financial planner, you have another option. You can invest with Betterment. They are a firm that does the investing for you, automatically. You set up an account as well as a monthly investment amount and they do the rest.
I’ve been with them for over a year and half and have nothing but praise for them. When you automate things, you succeed because you don’t have to do anything further. It’s all taken care of. You can read my detailed review about Betterment here.
Finally, if you feel that you can invest successfully on your own, I have a few things for you. First, you should read this post on how to become a stock market millionaire. It will help you to cover all of your bases and set you up for success.
I also encourage you to check out my online broker comparison chart. Here you will get reviews and detailed information on various online brokers so that you can pick the one that makes the most sense for you and your goals.
Lastly, reading my ebook, 7 Investing Steps That Will Make You Wealthy, is a great idea too. It will walk you through the process of investing in 7 steps that helps you to be a stock market success.
Young Investors, you NEED to invest in the stock market. I realize the stock market crash of 2008 was not fun and you lost money. Everyone did. But you have time on your side to earn it all back and then some. In the history of the stock market, it has never dropped to zero. If you refuse to invest in the stock market, be prepared to not have enough money for retirement. I’m not saying there is no way you will be able to retire comfortably, because there is a sliver of a chance you will. But the odds are stacked against you.