In Can You Reduce Your Spending? we talked about cleaning up your budget and paying down your debt. Now that your budget is cleaned up and you have excess cash, how do you invest?
I know what you’re thinking. When you see the word, “investing” you may hear these words in your head:
Confusing?! Complicated!!! Scary?! Recession!!!
If this is you, I have good news. By the time you’re done reading this post, you will have all of the information that you need to become a successful investor. I promise it really is easy, and anyone can do it.
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| Is your current investment tool a piggy bank? |
Where To Invest?
First you need to select an investment company, and in my opinion there is only one to go with - Vanguard. I recommend Vanguard because of their unique ownership structure. Most investment companies are owned by outside shareholders, and in order to pay the “outsiders” the investment company has to charge their investors (you and me) fees. Vanguard is owned by the funds that it offers which are owned by the investors (you and me). There is no outside ownership. Read more about the unique way Vanguard is structured here.
What Type Of Account Do I Open?
If you decide to go with Vanguard (good choice!), you now need to open your account. For most people pursuing early retirement this is going to be a taxable account (when you eventually start to pull your 4% per year in early retirement, you will be taxed on the dividends and long term capital gains from this account). Don’t sweat the tax implications because if you are a couple filing jointly, your first $77,200 of income is taxed at a zero rate. Most people living in early retirement live on much less.
Open your taxable Vanguard account here.
What Fund(s) To Invest In?
This is the easiest part!
Before I begin, let’s talk about what we are not. We are not day traders, and we are not short term investors. We are buyers and long term investors. When the stock market is up, we buy. When the stock market is down, we buy. We know that if (or when) another 2008 happens, we would buy as much as possible while others panic and sell (because the market will go back up).
What funds should you invest in with Vanguard? The good news is there are only two, and depending on your risk tolerance we could lower it to just one (like us).
This fund covers every single company that is in the US Stock Market.
This fund covers every type of Bond in the US Bond Market.
Next decide how you want to allocate your funds. If you are okay with some volatility in your account, you could just stay 100% in VTSAX. If you want to smooth the ride out a little bit you could do 75% in VTSAX and 25% in VBTLX.
As an example, we are currently sitting in 100% VTSAX. Once we retire I am considering changing to 90% in VTSAX and 10% in VBTLX (but would never go lower than a 75% / 25% split regardless of age).
For more on this investment strategy, I’m going to point you to one of the posts in Jim Collins Stock Series again. If you haven’t read the series yet, I highly recommend you do it as soon as possible.
What About Fees?
Not only is Vanguard’s company structure designed to benefit the investor, but they also consistently offer the lowest fees. The amount of fees you pay is very important and can save you thousands over the long run.
An example:
If you have $100,000 invested in VTSAX with Vanguard you are going to pay an expense ratio of $.04 % (these are the fees they will deduct every year). $40 per year for every $100,000 invested ($100,000 X .0004 (move the decimal over 2 places) = $40.)
Even if other companies offer similar fees for a similar investment (most do not), they still can’t touch the unique ownership structure of Vanguard that we discussed above. Other investment companies are set up to make money off of you, and Vanguard is set up to make money for you while charging the lowest possible fees.
What About My 401k / IRA?
If you are fortunate enough to work for a company that offers a 401k Plan you should be maxing this account out. I’m not talking about maxing it out to the company match. I’m talking about putting in $18,500 if you are under 50, or $24,500 for those that are over 50. Don’t worry about early withdrawal penalties for those reaching FI (financial independence) before the age of 59 ½, there are ways around that (For more information on this let me introduce you to the Mad Fientist. This guy is a genius!).
If your 401k is with Vanguard, congrats you are one of the lucky ones and can invest in VTSAX and VBTLX. If you are with a company like Fidelity, search out a low cost Total Stock Market Fund and a Total Bond Market Fund to invest in. For example, my 401k is with Fidelity, and there is a S&P 500 Index fund with rates comparable to Vanguard that I invest in.
If you have an IRA, I suggest rolling over to Vanguard (if you aren't already there!) and investing as mentioned above in VTSAX and VBTLX.
That’s It!
To sum it up. Vanguard, VTSAX, VBTLX. Got it?
So what do you think? Where do you currently invest? What do you think about this strategy? Any questions?
-Erik
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