Investing your money can help it grow, and you know that it's important. But you may not know how it grows or what precautions to take to ensure it grows consistently and that worries you, so instead, your money just sits in cash, earning practically nothing.
You are not alone. In my experiences as a financial advisor, this was a major roadblock that prevented many of my clients from getting into investing. But by following these six steps, you can confidently start investing and have your money work for you, much like it does for the pros.
Step 1: Set a goal and make a plan
What are you investing your money for? Are you saving for your retirement? Building your emergency fund? It's important that you set a goal by deciding the purpose and time horizon for your money before you start investing.
After setting your goal, you need a plan that will help you reach it. You can start drafting your plan by first assessing where you are now. How much money do you already have saved? How much time do you have left before you need your money? Doing an audit of where you are starting relative to your final destination lets you work backward and figure out which asset allocation model and investment vehicles are best.
Step 2: Know your risk tolerance
Are you someone who gets skittish whenever the markets crash, or do you shrug it off as a part of the investment process? The way you answer this question will determine how much risk you can take. The better you match your investments with the level of risk you feel comfortable taking, the greater the odds that you'll stay invested, no matter what the market cycle looks like.
Not sure how to determine your tolerance for risk? You can take a quick and easy questionnaire that will help you find out. In addition to your reactions to the markets, there are some other factors that will come into play, like your age and annual income.
Step 3: Diversify your holdings
Whether you decide that the best investment vehicle is individual stocks or index funds, don't put all your eggs in one basket. Diversification offers you many benefits, including increased exposure to different asset classes, lower risk, and an enhanced return. Getting these benefits will involve investing in different asset classes, sectors, style categories, and company sizes.
Step 4: Start sooner rather than later
Investing at an early age gives you the benefits of time and compound interest. Don't worry if you can't save as much money as you want; saving as much as you can at an early age will still give you an edge.
If you can save $1,000 a month, earning 10% starting at age 25 and ending at age 65, your account will grow to $486,851 at the end of the 40-year period. If you start saving the same amount with the same interest rate five years later at the age of 30, your account will only grow to $298,126. As you get older and make more money, you can focus on maximizing this edge by increasing the amount that you save each year.
Step 5: Research before you buy
Investing veteran Warren Buffett is famously quoted as saying: "Never invest in a business you cannot understand." You can learn more about a company by exploring its investor relations page and the financial statements on its website. Additionally, you can ask yourself: What makes it profitable? Does it have an exciting line of products that are expected to do well? Does it have a steady or growing revenue? Investing like the pros requires that you're educated and remain diligent about knowing what you're investing in and why.
Step 6: Adjust when necessary
Monitoring your investments and adjusting when needed is just as important as choosing the right investments in the first place. Has the stock market rallied or crashed, putting your asset allocation out of whack? If so, rebalancing it back to its initial place is necessary.
Have you had an important life event like purchasing a new home? Do your goals need redefining as a result? Investing is a journey, and a big part of success as an investor is making sure you don't take all these steps and then forget about your initial hard work and investments over time.
Meeting your financial goals
Sitting on the sidelines while your money isn't growing is frustrating. Investing is something that you can do, even if you're not a pro, and these six steps will help you create an easy process that you can follow. The more organized and disciplined you are around following this process, the better you will fare, and the more successful you will be at meeting your financial goals.