Investing is one of the keys to building wealth, but many times it may seem that it only helps build wealth for the rich. Indeed, many websites advocate opening a brokerage account for buying stocks with at least $1,000 – the more, the better – and this is after you have six months’ worth of expenses saved in an emergency fund. But, truthfully, there is no reason why you can’t start investing today with whatever extra you have laying around.
The real secret to building wealth through investing is starting early, no matter your beginning point. If the brokerage platform you choose allows you to open an account with just $1, go with that. Here’s why it’s important to start now, even when you’re practically broke.
Why investing helps you build wealth
At its most basic, investing in stocks or other financial assets is buying an ownership share of something. As a part-owner, you don’t need to do all the work yourself, but you are tying your funds to the company’s performance for better or for worse.
Because investing is buying an ownership share, it is vital to understand that investing is inherently risky. Any business in existence could go under, and if that happens, your ownership share is essentially worth zero. You’ll have lost all the savings you locked into that investment.
But with risk comes the potential for huge rewards. And that’s the reason people keep investing in different financial assets.
The S&P 500 Index, which tracks the performance of 500 leading companies in the U.S., has returned an average 10.8% over the past ten years. In comparison, your savings account may offer you as little as 1% in interest. Even taking those numbers at face value, you can see that parking your extra money in an investment vehicle allows you to grow your money without lifting a finger.
The key to building wealth through investing is to buy investments early and allow time for those assets to grow in value.
Usually, investing is a long-term activity. $1,000 placed ten years ago in an exchange-traded fund (ETF) that follows the S&P 500 would be worth roughly $5,278 today. It takes time for a business to grow substantially and for that business’ value to translate into higher returns for owners. A 10% annualized return over one year is only $100, but 10% every year for 10 years is suddenly the difference between $1,100 and $5,278. That’s the power of compounding.
Early retirees know the power of compounding investments firsthand. Say you open a tax-deferred brokerage account (like an individual retirement account) with $1,000. If you were to invest that money in that same EFT tracking the S&P 500, and you continually added $1,000 at the beginning of every month, over 20 years you’d have an estimated $804,000 in your account. If you only grew your funds over 10 years instead of 20, your account would be worth $212,000. Adding 10 more years to the timeline quadruples your account value.
How to start investing with no money
When you don’t have a lot of extra money, however, the idea of investing may seem daunting. But there are ways to get started right now.
First, if you’re eligible for an employer-sponsored retirement plan, make sure you’re enrolled. Recent reforms have made it easier than ever for both full-time and part-time employees to enroll in a direct contribution plan like a 401(k). By directly taking the money from your paycheck, you can guarantee that you’ll be saving for the future. Financial experts recommend contributing 12-15% of your paycheck to your 401(k), but that figure is really an ideal.
Start by contributing enough to maximize your employer’s contribution match. That’s free money that your employer puts into your retirement account, which is a type of tax-advantaged investment account. You can slowly work your way towards the recommended percentage by auto-escalating your contribution by 1% every year. As your salary grows, your contributions will grow, too.
You can also open a brokerage account to invest post-tax money. Major firms that offer low- and no-cost trades include: Vanguard, Fidelity, Charles Schwab, ETrade and Robinhood.
How much should you invest?
As much as you can. Experts often recommend a standard 50-30-20 approach to dividing your paycheck: 50% to bills like housing, utilities, groceries and such, 30% to wants like travel and 20% to savings and investments. However, that really depends on your individual situation. One of the Pillars to Building Wealth is spending wisely through conscious consumption, so you may end up saving and investing more than 20% — putting you ahead of your peers.
Try opening your brokerage account with $100. With that, you could potentially buy a share or two, or diversify your investments through fractional investing. You should aim to contribute a set amount to your investment account with every paycheck, so you can buy assets at set intervals. This is a tried-and-true method toward reducing pricing risk called dollar-cost averaging.
What should you invest in?
There are many trading websites out there that can provide detailed analyses of companies and financial assets for investing. However, to start with, you can go with the leading choice of most financial advisors: low-cost or no-load funds. These are pooled investments, shares of which you can buy either on the stock exchange (ETF) or through a fund broker (mutual fund). Oftentimes a fund will track an index, sector, commodity or other asset, so evaluating funds as investment opportunities means understanding the whole picture and not just an individual company.
Ask yourself: How long will you stay invested in that fund? Are you focusing on generating stable income through dividends or are you hoping for a riskier mix that will grow substantially? Are there any sectors or financial instruments that you’re passionate about?
You can familiarize yourself with understanding investment fundamentals before buying anything. A majority of financial advisors rely on fundamental analysis, looking at revenues, earnings, future growth, return on equity, profit margins and other data to determine underlying value and potential for future growth.
Bottom line
Investing early and often is one of the keys to building wealth. While any investment is inherently risky, most pricing ups and downs can be smoothed out by regularly buying assets over a period of time, a method called dollar-cost averaging. It’s important to always review your potential investments prior to purchase, understanding the pros and cons to buying that particular asset, and to make sure you’re buying financial assets through a registered broker.
