Investing is a critical aspect of personal finance, something everyone should have a baseline understanding in. It’s easy to get lost amid the lingo: ETFs, RRSPs, TFSAs, etc. I’ll provide definitions at the bottom for anything that might be unfamiliar. The following tips are broad and basic, helping you to manage your money in a smart and effective manner.
1. Set money aside. There are many methods to ensure you save regularly. Your employer may give you the option to automatically contribute ~5% of your pay towards a savings plan. This way you don’t have to think about it and you won’t be tempted to spend it on new shoes. If money seems tight, try to exercise discipline and forego the $4 daily espresso on Thursdays. $4/week = $200/year = ~$20,000 after 30 years if invested at a return of 7% per year. Potentially the difference between a Toyota and a Mercedes in your twilight years.
2. Start saving early. Small contributions in your twenties, even if you aren’t making too much money, make a significant difference thirty years later when you are heading into retirement (I know it’s tough to think about when you are 25, but when you’re 60, you’ll be happy you did). Take the following examples into consideration:
- $1000 invested each year for 20 years at a 7% annual rate of return becomes almost $44,000 at the end of 20 years. Compare this to:
- Investing nothing for the first ten years and then $2,000 a year for 10 years. At the end of 20 years this is around $30,000, significantly less.
- Equivalent to option 2, investing $1,000 a year for 10 years and then nothing for the next 10 years also generates $30,000 at the end of 20 years – overall illustrating the impact of starting early
3. Squash credit card debt before you start contributing to your savings accounts. Outstanding credit card debt will cost you upwards of 20% per year which far exceeds what you’ll make invested in your savings account. It might sound obvious, but some people prioritize making their maximum annual contributions to their Tax Free Savings Account (TFSA) before paying off credit card debt. Don’t leave this debt uncontrolled where it will eat away at your hard earned money.
4. Put your savings into the right type of investment (aka asset class). When you’re young and early into your career, you should be investing more of your savings in higher risk investments such as the stock market (examples: stock ETFs, Mutual Funds, etc). This money will have decades to grow and recover from any short-term losses. If you are approaching retirement or relying on a significant amount of savings to make a big purchase (like your first home), invest more in lower risk options like fixed income (examples: fixed income ETFs and GICs).
5. Diversify your portfolio. All you need to do to be appropriately diversified is to invest in Mutual Funds or ETFs that themselves are composed of dozens of different companies’ stocks or bonds. In the event one of those companies goes bankrupt, you’ll lose far less money than if you had invested the equivalent sum in that one company’s stock/bond.
6. Buy and hold your investments. Trading frequently increases commission costs without gaining any value for you. Don’t try to time the markets, even the experts get it wrong most of the time. Invest your money on a quarterly or annual basis regardless of market conditions. By doing this you are pursuing a dollar-cost averaging strategy. You’ll buy investments at the peak and trough of cycles and in the end it all averages out and you’ll make money in the long-term – which is much better than making a big bet right before the market crashes. You’ll also be buying fewer shares when the market is high and more shares when it’s low which lowers the average cost per share and contributes to gaining better profits. Jeremy Siegel’s Stocks for the Long Run illustrates that active investors (who try to time the market) earned 11.4% on an annual basis from 1801 to 2001 while passive investors (who buy and hold) earned 18.5% annual returns during the same period. Sell only when you need to.
7. Don’t worry about the market! First of all, it’s not good for your stress levels. Secondly, there’s nothing you can do. The markets go up, and they also come down, sometimes in devastating fashion and quickly. Don’t panic and sell. The only way you benefit from this is if you perfectly time the top and the bottom of the cycle. Otherwise you could end up selling at the bottom and buying again after you’ve missed out on 10% gains. A diversified portfolio always grows in the long-term. For example, consider the 2008-2009 Financial Crisis where the Dow Jones Industrial Average stock index fell over 50% in roughly 6 months. That’s a tough pill to swallow, but four years later it reached a new all-time high. Pill turned to candy you might say. Remember, savings are long-term, it only matters what it is worth when you need it.
8. Don’t be greedy. Don’t let fear drive your investment process, and don’t let greed do it either. Don’t pile all your money into the riskiest stocks because you want to double and triple your money in a hot market. Don’t buy Facebook and Google stock just because your friend is boasting about how much money he has made over the past year in those stocks. Sometimes boring is good. Discipline will serve you well, keep to a simple plan e.g. invest 10% of each pay cheque into broad market ETFs on a bi-monthly basis.
ETF = Exchange Traded Fund, this is an investment fund traded on exchanges (just like stocks) that holds numerous assets such as stocks or bonds of different companies
Mutual Fund = an investment vehicle composed of a pool of funds, collected from many investors, for the purpose of investing in a diversified group of assets such as stocks and bonds
GIC = Guaranteed Investment Ceritificate, this is a Canadian investment offering a guaranteed rate of return over a fixed period of time. Due to its low risk profile, the return is generally less than other investments.