One of the biggest issues that new investors run into is developing an easy-to-repeat, long-term investing strategy. Below I'm going to discuss three steps you can use to help develop your investing strategy. By having a set strategy every investor is better prepared to weather the inevitable volatility of the market.
What 3 Steps Should You Follow When Investing?
1. Save Consistently
Consistently putting money aside is the best way to begin investing. To reach this point you need to have a solid financial foundation. Spend a few months tracking your money in vs. money out. Use excess cashflow to set money aside in an emergency fund covering 3-6 months of expenses.
Read more about putting your financial house in order.
Now that you have your financial footing solid begin investing a set amount of money from every paycheck into the market. This process is called dollar-cost averaging. If you’re able to do the age-old recommendation of 20% that’s great. If not begin with a lower amount, like 3-5% and then increase as you are able. However it looks for you, just starting to invest is key to putting yourself in the best possible financial situation!
Dollar-cost averaging allows you to take part in both good days and bad days in the market. From 1999 to 2018 the S&P 500 had an annual performance of around 5.6%. Missing the 10 best trading days in that period makes the return only 2.01%. By missing the 20 best trading days your return now moves to -.33%. Timing the market is notoriously hard to do, so reduce your risk by investing on regularly over a long period of time!
2. Make A Plan and Keep It Simple!
Have a plan that is based on historical data and facts. As mentioned above, the historical S&P 500 is about 5.6%. If you had contributed $100/month during that time to an ETF that tracks the S&P 500 your $22,800 contribution would have grown to $38,911.76. The additional interest earned is $16,111.76!
Choosing a simple strategy with a proven track record can take a large amount of stress out of investing. Utilizing a collection of ETFs that track a number of indexes such as small-cap, mid-cap, and large-cap indexes is one way to give an appropriate amount of diversification in your portfolio.
At Creekmur Wealth we use an investment strategy known as Core and Satellite. We utilize a collection of broad based index funds to provide diversification. These solid investments make up the core, or bulk, of our portfolio. Then we do research on investments that have long-term growth potential. These investments are higher risk and make up the smaller, or satellite, portion of our portfolio.
3. Don't Jump When Things Get Scary
In college, I did a lot of rock climbing. Before doing a difficult climb I would develop a strategy, or beta, to use while climbing. I would find a climb, make beta, and go.
Eventually, on one hard climb, I hit a spot that was more difficult than I expected. I got scared, thought I would fall, and I made an emotional decision to ditch my plan and jump for the next hold.
I missed the hold, took a huge fall, and got pretty badly hurt.
This story of making an emotional decision and ditching my plan reflects what often happens to many of the new investors we see. Just like in my climbing experience, investors can get hurt when they make a plan, but allow emotions to cause them to ditch their plan and make a quick decision. This in turn leads to them taking a bigger fall than what would have happened if they stuck with the strategy.
When the markets go down it can be easy to get scared and want to pull your money out. While there may be momentary relief by selling, you in turn now run the risk of missing out on the next rebound. Looking back to March of 2020 is a great example. At one point the S&P 500 was down 25%+. Selling at that moment in time would lock in those losses and stop the loss of funds. However, it would have also lead to an investor missing out on the following incredible recovery. The S&P 500 ended 2021 up around 91% from the 2020 Low.
So...What is The Best Thing to Do?
Over the past decade, a dangerous narrative has started to play out. This narrative revolves around the idea that the market never goes down and stocks only go up. This in turn has allowed many investors to go into the market without a plan. However, when markets drop, not having a plan leads to emotionally pulling out of the stock market.
Having a plan that is based on historical facts allows an investor to ride the ups and downs and in turn see the potential compounding return that we have historically enjoyed.
Talking with a financial professional is a great way to develop an investing strategy early on.
Connor Creekmur, MBA