The money you consistently sock away for retirement should absolutely not just sit in cash. If you go that route, you won't grow your money at a fast enough rate to outpace inflation. The result? You could wind up cash-strapped later in life, and your long-term goals may be compromised.
Rather, it's important to invest the money you're socking away for retirement and other objectives. And in that regard, you may decide to simply load up on index funds.
Index funds are passively managed funds with a goal of tracking and matching the performance of the benchmarks they're tied to. An S&P 500 index fund, for example, will aim to do as well as the S&P 500 itself.
Index funds are actually a pretty good choice for the typical investor, and that's not just my opinion. Investing giant Warren Buffett has long hailed index funds as a great way for everyday investors to grow wealth.
But my personal investment strategy doesn't revolve around index funds. Here's why.
1. I'm comfortable handpicking stocks
Index funds are a great option for people who don't know a lot about picking stocks individually or aren't comfortable going that route. While I may not have the same stock-picking skills as some investors, I probably know more than the average person. Based on the knowledge I have, I'm comfortable evaluating stocks and choosing individual companies in which to put my money.
To be fair, I'm also willing to put in the time and research different companies before diving in. Some people may not have the desire or patience to do that, and that's OK. Since I routinely spend time reading up on stocks (sometimes, just for fun), investing in individual companies is doable for me.
2. I want a portfolio with the potential to beat the market
Index funds have a couple of drawbacks, one of which is that they won't let you outperform the broad market in your portfolio. As I mentioned earlier, index funds want to do as well as the indexes they follow, but their goals aren't to beat them.
I, on the other hand, have slightly loftier goals. My aim is to assemble a portfolio that does at least modestly better than the broad market. To pull that off, I need to assemble my own mix of investments.
3. I get choices in my retirement plan
People who save in an employer-sponsored 401(k) plan are often limited to a selection of funds, as opposed to individual stocks. But because I have a different type of 401(k) -- a solo 401(k) -- I don't have that restriction. Instead, I can invest my long-term savings in individual companies, and it's an option I prefer to jump on.
What's the right choice for you?
There's absolutely nothing wrong with falling back on index funds in the course of investing for retirement and other long-term objectives. But I have my reasons for picking different stocks that I think have a solid level of growth potential.
One thing to keep in mind, though, is that you don't have to choose between index funds and individual stocks. Investing in both could end up making you very wealthy, all the while making it easier to keep your portfolio nice and diverse.