3 Signs You Aren't Ready to Start Investing

It's generally a good idea to open a brokerage account and start investing. Investing your money helps it grow. You can earn returns on the money you've put into the stock market (and, if you invest wisely, those returns are likely to be higher than the returns you'd earn on a savings account, CDs, or many other assets). Once you've earned returns, that money can be reinvested, growing your account balance and allowing you to earn interest on interest.

But, while it is usually smart to invest, it's not the right choice for everyone at every stage. You must be financially ready to move into buying investments and not everyone is in that place yet. To help you decide if you may need to wait a bit, check out these three signs you aren't ready to invest.

1. You have a lot of high-interest debt

If you have a lot of debt you're paying a lot of interest for, investing may not be the right move to make. You may want to focus on taking care of those loans first if doing so would give you a better return.

When you pay off loans, your return on investment (ROI) is the interest you save. So, if you have a payday loan with fees so high your effective APR is around 400% and you pay off that loan ASAP, you're effectively making a 400% return on the money.

If you invest in the stock market, it's reasonable to expect around a 10% average annual return (assuming you invest in assets that present a reasonable level of risk). If your debt is at a much higher rate than that, it's probably smarter to devote your extra money to paying off the loans first since you'll get a higher ROI by doing so.

On the other hand, if you have low-interest loans like mortgage debt, you should not be paying extra toward that but instead should be getting your money into the market (assuming there's no other reason not to do so).

2. You have no emergency savings

If you do not have money saved for emergencies, you should take care of that before you start investing. Specifically, you should make sure to put aside enough money to cover about three to six months of living expenses in a high-yield savings account.

There's a simple reason for that. Emergencies can happen to anyone, anytime, and if you have no emergency savings, you could be forced to sell investments to cover surprise costs. And this could be a problem.

Here's the issue. Over the long run, if you make smart investments, you should make money. But, in the short run, downturns can happen and you could sustain losses. If you happen to have bad timing, you could face an emergency at the same time that the market crashes -- say, for example, because you lose your income due to a global pandemic that causes a stock market crash (can you imagine?) or even because of a simple recession that has the same effect.

If you need money, have no emergency fund, and are forced to sell your investments at a bad time, you could lock in losses that you otherwise would have recovered from. Just look at the performance of the S&P 500 in recent years. The S&P 500 is a financial index often used as a benchmark for how the stock market is doing, and it is made up of 500 of the largest companies in the U.S.

If you invested in an S&P fund in 2018, lost 6% of your money, and then had an emergency at the start of 2019, you'd have lost the chance to make your money back and then some.

Since you need time to wait out potential downturns, you should avoid investing unless you have an emergency fund in place first. If you will need the money you're investing for any reason within the next two to five years or so, it doesn't belong in the stock market.

3. You don't have a plan for where to put your investments

Finally, you shouldn't invest until you have a plan. You don't want to just stick money in a brokerage firm and start buying assets randomly, as that's more like gambling than investing.

Many people are best off just putting their money into an S&P 500 index fund due to its consistent performance and low risk. But you can research different investment strategies to see what you feel comfortable with. You'll want to do this before you begin investing though.

If you see that these three signs suggest you aren't ready to begin investing, don't get discouraged. Start working on paying down your high-interest debt by sending in extra monthly payments each month, or begin working on putting money into an emergency fund by reducing your spending and setting up automated transfers to savings. You can search investment options as you accomplish these goals, so you'll be ready to invest ASAP.