How To Start Investing in 2022: An Illustrated Guide
There’s a saying in the investing world about when the best time is to start investing. The answer they say is, yesterday. So when is the second best time to start investing? The answer is today!
It’s normal to be hesitant to start putting your precious spare cash into what seems like risky investments. I mean, you could lose everything, right? The reality is that’s very unlikely, but that’s also where you need to understand how to judge the risk involved with stocks and funds, and what your own risk tolerance is, based on your investment time horizon. Read on to find out how to start investing in 2022.
Disclaimer – This article is the author’s opinion and is for information purposes only. It is not intended to be investment advice. Seek a duly licensed professional for investment advice.
The 2020 pandemic crash was a big year for new individual investors entering the stock market. Those who did, could buy almost anything and get a huge return compared to historical averages. 2021 was more mixed, but still saw the three big US indexes go up around 20%. The S&P 500 index grew 26.9% for the year. The Dow Jones Industrial Average (DJIA) gained 18.7% in 2021, and the Nasdaq Composite (NDAQ) gained 21.4%.
What Should I Start Investing In?
It’s boring, I know, but let’s start by considering taxes on investments. As a US tax resident, a 401k(k) or IRAs and Roth IRAs are the best place to start directing cash due to the tax reduction on your investment gains. Some countries like Singapore, have 0% capital gains tax on investments so buy and sell at will. So as you can see all countries have different levels of taxes and their own tax efficient savings schemes, so consult a licensed investment professional to avoid losing out.
Next, what stocks or funds should you actually put your hard earned dollars into? As you saw from the 2021 market growth numbers above, the S&P 500 seems like a pretty good option. But maybe you’re thinking to yourself, can I beat the market by picking just the highest growing stocks?
Can I Beat The Overall Market?
The short answer is, maybe, but probably not. Below are four reasons why it’s hard to beat the market.
- Fees – For every percent your chosen funds charge in management fees or your broker charges for trades and custody fees, you’ll have to outperform the market just to equal the market.
- Taxes – US capital gains taxes are due on any realised profits you take. If held for over a year it’s in the 15-20% range and shorter time-frames can incur 30% tax or ordinary income rate.
- Psychology – We investors can be our own worst enemies… If you’ve not yet managed your own investments, you might not believe how common it is for investors to buy high when the market is already up and then sell to try to limit losses after the market has already fallen. Doing nothing during a market pullback, and timing buys before a market run up takes mental strength and focus that not everyone has, especially while juggling everything else in our lives.
- Time – If you want to beat the market you need to actively monitor it to catch the rotations between sectors, or to be sure your market beating stock pick isn’t about to report earnings below Wall Street’s expectations.
There are approaches and strategies to overcome these barriers, but they’ll take planning, self-awareness and a bit of luck to come out on top.
What Are ETFs and Why Are They Good For New Investors?
Exchange Traded Funds are baskets of stocks that often replicate an index like the S&P 500. They can be bought and sold like a stock, and go up and down in value as the market value of their component stocks go up and down. One key factor when choosing an ETF is checking the expense ratio of the fund. Passively managed funds that track an index will be amongst the lowest fees but can still vary. Fund managers Vanguard take some of the lowest fees from their funds (you don’t get invoiced) and their passively managed VOO S&P 500 index tracking fund has an expense ratio of only 0.03%. Actively managed funds are considered reasonable at about 0.5% to 0.75%, and above 1.5% is seen as high and new investors should probably skip them.
Disclosure – The author holds Vanguard funds as part of my investment portfolio. Most individual investors should also, but it’s best to get professional advice from an impartial financial advisor who isn’t taking profit from fund managers.
Did You Know?
The Roman numerals for “500” are VOO; which is why it’s Vanguard’s S&P 500 ETF ticker 😉
How Much Do I Need to Invest? The Magic of Compounding.
There’s almost no amount too small to start investing and it’s never too early to start. Would you believe me if I told you that even a minimum wage earner can become a millionaire over the course of their working life? Let me show you how it works.
Imagine a 20-year old starts with a $3,000 nest-egg, and then invests $250 per month ($3,000 per year) every month until retirement at 65 years old. And let’s say that the S&P 500 only returns 7% per year on average in the future, this is what that person would have to retire. All profit is re-invested.
That’s a final value of $1,023,049.94. Pretty cool, right? But what’s even better is that the S&P 500 has actually returned a historic annualised average of about 10.5% from 1957 through to 2021. Projecting compound returns from that historic percentage increases the future value to an impressive $3,458,091.85. Also consider that most people increase their earning power through their working life. If they increase their invested amount, that final sum could be much higher. That is the magic of compounding interest!
What is Dollar Cost Averaging And Why Is It The Best Way To Start Investing?
In the examples above we saw how $250 invested every month can become over $1,000,000. One of the key parts of that approach is that it happens like clockwork, every month, rain or shine, bull market or bear market, you just keep investing. Something happens when you take this Dollar Cost Averaging approach, is that you take emotion out of investing; and you average out what you paid for your investments which reduces the impact of market swings (aka volatility). Let’s look at an example.
So as you can see, Dollar Cost Averaging tends to lower your cost basis (the average amount paid per fund unit or stock share) in an investment over time. Your lower cost basis leads to less loss on investments that decline in price, and greater gain on investments that increase in price. One exception to note is that when you have a cash lump sum available to invest. It has been found by researchers that deploying that capital in one lump sum results in higher gains more often than holding the cash and deploying it in several smaller sums over a longer period of time. But please do take professional advice on what would be best for you and your financial situation.
Tip - At low investment amounts fees can have a bigger impact so consider starting with a commission free broker and only buy ETF funds with low expense ratios.
Which Broker Or Service Is Best To Start Investing With?
There are a fast growing number of services you can use to invest through. Some deciding factors will be if they have access to the assets you’d like to invest in and how much they charge. For example, you might want access to funds and stock outside of your country, but as mentioned before, you’ll prefer lower commissions on trades, or even 0% commissions. The fees involved are one reason traditional banks are usually avoided by beginners, but if you’re struggling to get started with investing, using your main bank might be one less barrier to you starting. Regular Savings Plans (RSPs) that automatically invest a set monthly amount
For US residents, below are some recommended services to consider, but do your own research to make sure they fit with your investment goals. And look out for our upcoming guides on investment services in Singapore, the U.K. and Thailand.
SoFi Automated Investing
LEARN MORE on SoFi Invest’s website
Fees0% management fee, Account Minimum$0, PromotionFree, career counselling plus loan discounts with qualifying deposit
Wealthfront
LEARN MORE on Wealthfront’s website
Fees0.25%, management fee, Account Minimum$500, Promotion$5,000, amount of assets managed for free
Betterment
LEARN MORE on Betterment’s website
Fees0.25%, management fee Account Minimum$0 PromotionUp to 1 year of free management with a qualifying deposit
E*TRADE
LEARN MORE on E*TRADE’s website
Fees$0 per trade, Account Minimum$0
Axos Managed Portfolios
LEARN MORE on Axos Invest’s website
Fees0.24% management fee, Account Minimum$500
Blooom
LEARN MORE on Blooom’s website
Fees$45 – $250 per year, Account Minimum $0, Promotion$10 off with code REEETIRE10
Acorns
LEARN MORE on Acorns’s website
Fees$3 – $5 per month. Account Minimum $0, Promotion $10 Sign Up Bonus
Ellevest
LEARN MORE on Ellevest’s website
Fees$1 – $9 per month, Account Minimum$0
