Fumbling when it comes to investing? Don't panic. There are easy ways to get your money to work for you.
1. Start early
More than any one stock or mutual fund pick, the age you start investing will determine how much wealth you build. To illustrate: Employee A starts putting away $100 a month when she's 22. Her money grows at 8 percent a year, and after ten years she stops contributing - and lets her stake grow. Employee B waits until he's 32 to set aside $100 a month, also growing at 8 percent a year, and he keeps it up until he hits 64. When they both retire at 64, she will have $234,600, and he'll have only $177,400. Need we say more?
2. Use your 401(k)
If you're not already enrolled in your company's plan, stop reading now and sign up. Since you're putting in pretax dollars, a 401(k) is an unrivaled savings vehicle, and passing up an employer match is - literally - giving up free money. Confused about how to manage all the choices in your 401(k) plan? New pension legislation is encouraging companies to offer third-party investment advisory services, so call HR to find out if yours offers any on-the-house guidance.
3. Keep it simple
If you have a full-time job and it's not picking stocks, acknowledge that. Choosing three or four index funds - say, an S&P 500 fund, an EAFE fund, and a small-cap stock fund - will give you broad exposure. ETFs (low-cost mutual funds that trade like stocks) are also an easy way to invest in more exotic asset classes, like commodities. If you're close to retirement, consider life-cycle funds from Vanguard or T. Rowe Price, which will automatically rebalance your account according to your goals.
4. Don't try to beat the market
Even the best fund managers have trouble beating the S&P 500, so give up the chase. The most straightforward way to avoid this trap is to diversify your assets and then rebalance your portfolio at least once a year. Check your asset breakdown with Morningstar's free Instant X-Ray tool (www.morningstar.com). Essentially, rebalancing means selling some winners that are taking up too big a share of your portfolio and redeploying that cash to bulk up in areas that have lagged. (Buy low, sell high - get it?)
5. Don't chase trends
You want to grow your money for the long haul, so you can't switch your strategy every time you read the headlines. If you see an asset class that's catching fire - like real estate investment trusts (REITs) in the late '90s or commodities this year - ask yourself some basic questions: Can I describe how it works in plain English? If not, start your research at Investopedia.com. Why is it so popular right now? If the answer is "Paris Hilton bought some," best to stay away.
6. Make saving automatic
No one wants to think about saving - so don't. Already more companies are making 401(k) enrollment automatic (34 percent of big companies, vs. virtually none ten years ago). If you're already maxing out your 401(k), see whether your company can transfer money directly from your paycheck into your Roth IRA or a taxable account. Or ask if your bank can transfer a set amount (even $100 a month) from your checking account into a high-interest-bearing online savings account (check out HSBC's and ING's offerings).
7. Go heavy on stocks
The more time you have, the more risk you should take. If you're just starting out, 80 percent to 100 percent of your assets ought to be in stocks. "If you have, say, 30 or 40 years, what happens over the next three months or even three years doesn't matter. If you need the money in two years and it drops 40 percent in one year, that's a problem," says Stuart Ritter, a certified financial planner with T. Rowe Price. The simplest trick? Subtract your age from 120: That's the percentage you should have in stocks; the rest should be in bonds.
8. Hold down fees
Be wary of any mutual fund charging a management fee higher than 1 percent (a few stellar managers may be worth it; most are not). A manager with a high buying and selling rate (called "turnover") should also set off warning bells. If you aren't interested in watching your fund manager like a hawk, stick with an index fund, like one from Vanguard, where expenses are typically around 0.2 percent. And if you're trading stocks, don't be fooled by low commissions: They add up.
9. Ditch credit card debt
All debt is not created equal, so rank yours by interest rate and pay off the bad stuff first. That usually means credit cards, which can carry interest rates as high as 30 percent. (Compare your card's APR with others at Bankrate.com.) On the other end of the scale are student loans. Those rates are generally between 3 and 6 percent, so consider making the minimum payment and investing in your 401(k) instead. Hey, even Supreme Court Justice Clarence Thomas was still paying off his school loans when he joined the bench.
10. Defer taxes
Eager to lock in your gains on a hot investment? Before you click on sell, consider the tax implications. In a taxable account, you'll pay 15 percent in capital gains taxes every time you sell a winner you've owned for more than a year (the longer you can defer paying taxes, the more time you're giving your money to grow). Come tax time, however, it can be a good move to sell losers in your portfolio to take advantage of the annual $3,000 capital-loss deduction limit and offset any capital gains on your winning picks.
December 12, 2006
10 rules for building wealth
December 10, 2006
6 funds to invest in with your kids
Are you looking to introduce your children to investing? Consider these tips and a half-dozen mutual funds with low initial outlays.
At Morningstar, we've often emphasized how important it is to start investing early in life. Not only does it give you a big head start in building a nest egg for a first home, a college education or retirement, but learning good investing habits early on can have a positive impact for years. That's why it's an excellent idea for parents to teach their kids about money and investing.
There are plenty of good ways to do this, some of which Morningstar's Sue Stevens recently described in her column (registration required).
Ultimately, there's no better way for kids to learn about investing than by doing it themselves, whether it's with money they've saved on their own or money given to them by a parent or other relative. Traditional tools such as summer jobs and savings accounts are still important, but mutual funds can also be an excellent way for older children to learn the value of a buck. Not all mutual funds are right for young investors, but with a little thoughtful research, it's possible to find some that kids can feel at home in.
What to look for
Broadly speaking, when helping kids invest in mutual funds, it's best to keep things simple. Focus on stock funds rather than bond funds because kids have very long time horizons and can take on plenty of risk. Large-cap stock funds are generally best; not only should they form the core of any long-term portfolio, but they're more likely to hold stocks of which the kids have heard. Kids will generally have no need for sector funds or other niche funds.
Young investors generally don't have a lot of money to throw around, so a fund that requires $5,000, $10,000 or more upfront is effectively closed to them. There are plenty of funds with minimum initial investments of $1,000, $500 or even $250, making them much more welcoming for beginners. You can read about some of these funds in this column by Christine Benz, and you can use Morningstar's Premium Fund Screener (membership required) to find funds with low minimums in addition to any other criteria you want. You might want to eliminate load funds; some of them have low minimums, but they're not appropriate if you're going to make lots of small purchases, as kids probably will.
Often it's possible to start with an even-lower initial investment -- sometimes zero -- if you set up an automatic investment plan, or AIP. Under that kind of plan, you arrange to automatically add a certain amount, such as $50, to the account each month. This can be a good option for kids with jobs that provide a regular income; not only does it allow them to start investing without a lot of money up front, but it will teach them how quickly that nest egg can grow when additions are made regularly. You can find out whether a fund has an AIP -- many do -- by looking on the Purchasing Information page of its Morningstar report, and you can use the Premium Fund Screener to screen for funds with AIPs.
Watch the expenses
Low expenses are a feature any fund investor should look for, and you'll do kids a favor if you instill in them early the importance of fund costs. This can be trickier than it seems at first because the cheapest funds can sometimes have high minimum purchases; still, kids can't go wrong if you steer them toward low-cost funds whenever it's feasible. Morningstar's free Mutual Fund Screener lets you screen for funds with expense ratios below their category average, and the Premium Fund Screener allows for expense screening that's more detailed.
Finally, it's often considered kid-friendly for funds to avoid alcohol, tobacco, gambling or pornography stocks because some parents or grandparents might not feel comfortable having kids investing in such businesses. Columbia Young Investor (LYIAX), a pioneer among kid-friendly funds that's soon being merged away, has always had such restrictions on its portfolio, as does its rival USAA First Start Growth (UFSGX).
This is a more personal standard than the other ones above, and it is one that parents might want to discuss between themselves and with their kids. If you do decide that you'd like a fund that screens out certain kinds of stocks, you can use Premium Fund Screener to find socially responsible funds, most of which at least shun alcohol and tobacco stocks. However, you'll also need to look at each fund individually to see whether its standards are ones with which you agree because funds can differ greatly in their definitions of "socially responsible" investing.
Six funds to consider
With all this in mind, here are some funds to consider if you have a child who's dipping his or her toe into the waters of investing. Of course, these aren't the only kid-friendly funds out there; judicious use of the screening tools mentioned above can help you find other candidates fitting the criteria that are most important to you. However, this list provides a good starting point for young investors:
USAA First Start Growth (UFSGX).
Now that Columbia Young Investor is on the verge of disappearing, this will soon be the only mutual fund explicitly geared toward young people. It's not without its drawbacks; its 1.45% expense ratio is high for a large-cap fund, and 25% of its assets are now in bonds, a higher percentage than most kids probably need. But manager Mark Baribeau avoids alcohol, tobacco and gambling stocks, and you can start an AIP for no money upfront and just $20 a month, one of the most kid-friendly plans out there.
TIAA-CREF Equity Index Investor (TCEIX).
Index funds have a place in any investor's portfolio, and kids are no exception. The big kahunas among index funds, Vanguard 500 Index (VFINX) and Fidelity Spartan 500 Index (FSMKX), are very cheap but have minimum initial investments of $3,000 and $10,000, respectively, putting them out of most kids' reach. This fund from TIAA-CREF has a minimum initial investment of $2,500, but that minimum is only $50 if you set up an AIP that invests $50 a month. Plus, this fund only costs 0.26% a year -- not as cheap as the Vanguard or Fidelity funds but still cheaper than most index funds and nearly all actively managed funds.
Vanguard STAR (VGSTX).
If you want to teach kids about the importance of low fund expenses, there's no better place to start than Vanguard. Some of Vanguard's most popular funds, such as 500 Index, are geared more toward older, more experienced investors, but Vanguard STAR is a good option for beginners. It provides exposure to 11 different Vanguard funds of various asset classes, including significant foreign exposure, and its track record is outstanding. A major factor in that good track record is the fund's rock-bottom 0.36% expense ratio. It does require a $1,000 initial investment, with or without an AIP, but nearly all other Vanguard funds require at least a $3,000 minimum, making this the best entree into this world-class family of funds.
Pax World Balanced (PAXWX).
This is one of the best socially responsible funds out there, with a strong long-term track record and reasonable expenses. It also has a low $250 minimum initial investment, whether or not you set up an AIP, making it an attractive starter fund. The fund keeps 25% to 45% of its assets in bonds, which makes it a bit conservative for most kids' needs, but it also provides significant mid-cap and overseas exposure, which can be hard to find in socially responsible funds.
T. Rowe Price Spectrum Growth (PRSGX).
This fund of funds is good way to obtain diversified, actively managed stock exposure. It invests in nine T. Rowe Price equity funds ranging from small to large cap, value to growth and domestic to international, and it has compiled one of the best long-term records in the large-blend category. Plus, like all T. Rowe Price funds, it's friendly to beginning investors; you can start an AIP with just $50 to start and $50 a month after that.
Ariel Appreciation (CAAPX).
This fund has struggled lately, but we have enough confidence in veteran manager John Rogers that it remains an Analyst Pick in the mid-cap-blend category. Rogers avoids tobacco, firearm and nuclear-energy stocks, and prefers firms that are environmentally friendly and cultivate diversity. It's also an easy fund for youngsters to get into; you can set up an AIP with no money upfront and $50 a month thereafter. On top of all this, Ariel maintains a number of educational initiatives to help disadvantaged young people.
Forex Money Management
Money management in the context of Forex trading refers to the process of analyzing trades for risk and potential profits, determining how much risk is acceptable and managing a trade position to control risk and maximize profitability.
Stop Losses.
There are no absolute rules to how to implement a money management strategy. However, some of the keys are to only risk a small percentage of your total equity capital on each trade. That way, you are able to recover from an unprofitable trade. Moreover, you may want to always have an actual stop set for each position. That way, you can assure that your losses from unprofitable trades are always limited in some predefined and controllable manner. Taking these steps and others can help limit the drawdown that you may suffer at any one time. One well known trader suggested a stop loss set 3% below your entry point; he then indicates that once your position has appreciated 3%, that you move your stop loss to your original entry point. For a full discussion of these rules and many useful other money management concept, see W.D. Gann’s famous book How to Make Profits In Commodities which was published many years ago.
Drawdown is simply the amount of money you lose trading, expressed as a percentage of your total trading equity. For example, if you funded your trading account with $20,000 and proceeded to lose $3,000, you would have suffered a drawdown of 15% ($3,000 divided by $20,000). To get back to breakeven, you would now have to obtain a positive return of 17.65% on your remaining equity capital ($3,000/$17,000). As you will see, as the size of the drawdown increases, the going forward positive return percentage increases exponentially:
5.00% - 5.26%
10.00% - 11.11%
15.00% - 17.65%
20.00% - 25.00%
Thus, the greater the drawdown, the more difficult it is to get back to a level of overall profitability.
Risk-Reward Ratios.
Other money management items include making sure any preplanned trades have an adequate risk-reward ratio such as 1:2. For example, if you sold the USD/CAD pair at 1.1723 and set a stop loss at 1.1823 risking a 100 PIP loss, you should not sell the position if it moves in your favor unless the price is 1.1523 or better (representing a 200 PIP profit).
Do Not Close Profitable Positions.
If you have the discipline, you should not sell your profitable positions even if they move past your risk-reward threshold level (1.1523 in the example above). Instead, you could hold onto the position and progressively move your stop to lock in your profits. For example, if the USD/CAD pair moved to 1.1475, you might place a stop loss at 1.1523 to lock in your 200 PIP profit. By doing that, if the market continued to move or trend in your favor, you could continue to profit from the trend. You could also continue to move your stop loss to lock in additional profit. The trailing stop feature can be useful to accomplish this and remove the need to continuously update your stops and instill a sense of discipline to your trading.
