Investing is an activity that belongs in every stage of your life. By investing early and steadily, young investors can seize the opportunity to achieve financial security sooner, rather than later. Yet when you’re young, it’s tempting to delay saving and investing until a more convenient time. The truth is, the best time to start socking money away for your future is right now — before you have a mortgage, children or other obligations.
Adopt the saving habit and get a head start
Like any behavior, saving is a habit that requires discipline. The more you do it, the easier it becomes. Focus on the rewards of being financially independent to instill a saver’s mindset. With careful investing, your savings have the potential to grow which will reinforce your good habits.
Remember that time is a powerful ally in the investor’s portfolio. Investment earnings that are allowed to grow over time benefit from compounding. With compounding, you earn interest on your interest earnings, creating a financial snowball effect over time.
Employ time-sensitive strategies
While investing for the long term is an important goal, it shouldn’t be your only consideration. In the years to come, you will encounter short-, moderate- and long-term savings needs that can be addressed with different strategies.
First things first — establish an emergency fund. With money set aside for emergencies, you won’t have to resort to credit or empty your bank account to manage an unexpected car repair, medical expense or layoff. Set a goal to save aggressively until you have six months’ salary set aside for this purpose.
Your short-term savings need to be liquid, for easy access to cash when you need it. Don’t rely on your piggy bank or mattress, which offer zero growth and invite temptation. Better to stash emergency funds in a standard savings account or, for a slightly higher yield, a bank money market account.
Five years out
When you’re just starting out, you may have specific financial goals such as buying a car or making a down payment on a home that you hope to realize in the near future. When your financial goal is attainable in as few as five years, you may want to utilize laddered Certificates of Deposit (CDs) to make the most of your savings.
Laddering involves buying CDs with staggered maturity dates. This strategy strikes a balance between the opposing need for liquidity and returns. As your CDs mature along the ladder, you can reinvest the money for a longer period at a more competitive rate knowing that another CD will mature and be available when you might need access to your cash.
20 years and beyond
Employer-sponsored retirement plans are an optimal way to build savings for a retirement that may be decades away. Take advantage of matching contributions if they are available to you.
An investment retirement account (IRA) is also one of the best bets for your extra investment dollars. In 2012, the maximum allowable contribution to an IRA is the lesser of $5,000 or the amount of your taxable earnings for the year.
IRAs come in several varieties, all of which offer important tax advantages. A traditional IRA is funded with pretax dollars, while a Roth IRA is funded with after-tax dollars and offers the future benefit of tax-free withdrawals in retirement. There’s also the Education IRA, which provides a tax-sheltered investment option to save for education costs. This is an important tool to help manage the skyrocketing cost of college tuition for your children.
You may decide to invest directly in stocks and bonds to help build future investment income. A generous time horizon allows you to patiently wait for companies to reach their potential and can help you ride out bumps in the market. Maintaining a diversified portfolio of stocks and bonds is one way to balance risk and reward.
Keep in mind that wherever there’s more potential for reward, there’s also more risk. Unless you have the time and skill to analyze and track businesses, investing in mutual funds may be a better option than trying to select individual stocks or time the market. But understand that there is no fool-proof way to invest; mutual funds also fluctuate in value and can cause you to lose some of what you originally invested.
Seek investment advice
Because the process can be complex, consult a financial advisor when you’re ready to invest who can help you apply strategies suited to your financial goals. A financial professional can offer insight and experience and help you adjust your investments as your circumstances change.
Diversification does not assure a profit or protect against loss
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