Investing Is Just Part of Your Financial Puzzle
Investing is an important part of a healthy financial life. You want your money to grow, and aside from winning the lottery, investing is the best way to do it. But as Jonathan Clements, editor of the Humble Dollar reminds us in his newsletter , it’s not the only thing that matters.
The conventional wisdom is that investing is where the big money is made. Reality: While our investment performance is a great potential source of our wealth, we are likely to greatly help our financial situation if we devote all our energies to improving other areas of our financial life. That means minimizing our borrowing costs, withholding insurance premiums, buying a home the right size, raising kids with smart money, and most importantly, saving diligently.
Many financial materials emphasize investment, and of course, you must invest in advance and consistently . But Clements’ perspective touches on something more in personal finance: money websites and individuals talk about investment products and strategies because it makes them a lot of money. This can be overestimated. It’s great to be curious and find new ways to invest; You can do whatever you want with your money. But for many people, getting to the ground floor of a new company or strategy is not something that makes or breaks their daily life. To have reliable finances, you need to pay attention to the big picture.
Speaking of this, he continues,
Conventional wisdom: There is retirement, insurance, college, home, estate planning and more. Reality: It’s all connected. Our financial life is a battlefield of competing claims, with a wide range of expenses and goals that require our limited income and assets. To make smart decisions about our money – including how much to save, what portfolio to hold, what goals to pursue, what insurance to buy, and how much debt is reasonable – we need to look at our overall financial picture.
Often a key organizing principle is our human capital – our ability to earn income – or lack thereof. As I said in a previous newsletter , our regular salary determines our insurance needs, allows us to take on debt, provides the savings we need to retire, and gives us the opportunity to invest in stocks.
The investment is as important as the cost of health insurance, as is your salary, as paying off the debt at a higher interest rate than what the market is returning. You can’t count on investing alone to stay afloat later in life – your income and savings (and luck) are also an important part of that. If you want more money, you need to make more money and you need to save it. The more you save, the more potential return you can get from investing (you know, it takes money to make money). More about this:
And if you want to invest in order to get more income over time, then what to do is pretty clear. If you have a 401 (k), invest at least to match employer. If you have an IRA, try to set aside five percent, then eight percent, then 10 percent of your paycheck until you reach the maximum. Invest in low-cost diversified indexed mutual funds and ETFs . Avoid actively managed funds. It’s not sexy. This is actually really boring, but this is what works:
Conventional wisdom: If we want higher returns, we need to pick the best stocks, bonds, and mutual funds on the market. Reality: If we want higher returns, we must forget about trying to outsmart the market – and instead focus on sensible risk, lower investment costs and minimizing taxes. This brings us back to indexing. But it also means choosing the right asset allocation and diversification strategy, filling retirement accounts as much as possible, and buying tax-efficient investments in our taxable accounts . These are all aspects of our investment strategy that are completely under our control, and small efforts can bring big dividends.
If you invest because you want to be rich, then, as Clements writes, you can never have enough. Instead, focus on the life you want to lead and what you need to do it.