When Should I Start Investing?
(Five-minute read time)
Investing can be a scary concept. There's a lot of fear-mongering and misinformation surrounding investing, which only makes it that much more daunting. Sure, it is wise to do your homework and approach cautiously – with investments come volatility and risk. However, making appropriate investments is a valuable financial strategy for building long-term wealth. Often we'll reference the stock market in this article, but the concepts apply to many other types of investments.
When the economy is struggling, those fears surrounding investing increase. With accurate information and a strong understanding of your financial standing, however, the state of the economy alone should not be a deterrent for investing.
The truth is there's no simple answer, and a sound investment strategy will vary on a case-by-case basis. In this article we’ll go over what you need to consider as you embark on your investment journey.
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Risk Tolerance
The first step is to determine your own personal risk tolerance. You could use countless strategies to invest your hard-earned wealth, but each plan comes with its own level of risk. Understanding your risk tolerance in relation to your financial situation will help guide you as you consider how much money to invest, when, and in what assets. Take our risk profile quiz and find out what your own risk tolerance is.
An investment should only be made when you understand the potential gains and losses associated with the investment and feel comfortable moving forward. Determine your risk tolerance, and use that as a guide as you consider various assets and investments.
As your life and financial situation change, so will your risk tolerance. Be sure to routinely re-evaluate your risk tolerance so that it continues to act as an accurate guide as you consider your investments through the various stages of your life.
Timeline
How long or short is your investment timeline? Are you looking to grow your wealth for a particular purpose in the next 5-10 years, or are you interested in long-term appreciation to save for retirement?
Shorter-term investing is subject to more volatility and risk, which must be considered when choosing investments. Recessions and economic downturns are far more impactful if you're looking to use those funds within a few years. In contrast, a longer-term investing strategy can better ride out the economic fluctuations to produce long-term gains.
Consider your risk tolerance and investment timeline together as you consider how to best invest your funds.
Dollar-Cost Averaging
New and seasoned investors alike can easily fall into the trap of trying to time the market. The truth is that trying to track the market's fluctuations and then estimate the "perfect time" to invest is challenging. Even for the experts, this strategy is often just as good as an educated gamble.
Dollar-cost averaging is an approach to investing that eliminates any need to time the market. It involves spreading out your purchases of assets in equal installments over a predetermined amount of time, regardless of the economy's fluctuations and the performance of the market as a whole.
This disciplined approach removes much of the stress of investing while providing peace of mind. It allows you to purchase more units of an asset when the cost is lower and fewer units when the cost is higher. Usually, this results in more units over time than if you had tried to manually time the market yourself.
Scenario: How to Use Dollar-Cost Averaging
Here’s a simple example that shows how a systematic investing plan can benefit an investor. Let’s say someone commits to investing $100 in an equity mutual fund every week. In this example, the market is volatile and prices are fluctuating up and down.
Breaking down your investment purchase into smaller chunks
Over the eight weeks, they invest a total of $800 and buy a total of 86.4 units. Their average cost per unit is $9.26. Had they invested her entire amount of $800 during week 1, their average unit cost would have been $10.00 versus the weekly investment strategy where her average unit cost was $9.26, a savings of 0.74 cents per unit.
In hindsight, they could have done even better if they had somehow known that week 3, when the cost per unit was at its lowest, would be the best time to buy. In that case, their $800 investment would have bought 114.3 units, worth $1,028.70 in week 8. However, they could also have done much worse if they had wrongly guessed that week 6, when the cost per unit was at its highest, would be the best time to buy. In that case, their $800 investment would have bought just 66.7 units worth $600.30 in week 8.
Take Advantage in Down Markets
While attempting to time the market is generally a bad strategy, there are certain advantages to investing in a weakened economic state. A recessionary environment provides opportunities that investors can use to their advantage:
Buy at a Discount
When the market is down, it's as if assets go on sale. Reputable companies with solid track records (think blue chip stocks) will have a lower cost during a recession, meaning you can purchase more units of that stock with the same amount of money compared to a non-recessionary environment.
It's important to note that this strategy is only advisable if you choose companies that will survive the recession and continue to grow in the following years. Ask yourself:
Has this company successfully weathered recessions in the past?
How have past recessions impacted this stock's returns?
Is this company well-equipped to survive this economic downturn?
Do I believe in the future of this company?
Purchasing quality stocks in a recession can be a strategic move that allows you to add strong assets to your portfolio for less than they would cost in a stable economy, helping you to see even larger returns once the market recovers.
Consider Various Assets
The stock market is the traditional means of investment, but stocks aren't the only assets available to investors. Many alternative investments provide their own advantages to investors, and some of those alternatives have the added bonus of having little to no correlation with the stock market performance. By investing in uncorrelated alternative assets, you can mitigate some of the risks of investing and see strong returns even when stocks are underperforming in a recession.
Bonds are a strong option that are less volatile than stocks, and typically a safer investment. Other alternative investments like real estate, whiskey, fine art, and precious metals typically yield strong returns through periods of recession.
As mentioned earlier, investing should be done with professional advice or a complete understanding of the asset and its components. Consult your financial advisor for any significant financial decisions, particularly concerning lesser-known alternative assets. However, it is crucial to understand that a dip in the stock market does not negatively impact all investment opportunities.
Don't Panic
If you already have some money invested in the stock market and you're watching your portfolio plummet, don't panic. Remember that all capital gains and losses are merely on paper until you sell that asset; if you continue to hold the investment until the market recovers and the stock bounces back, those losses will never be realized.
Consult a Professional
If you're looking to start investing or are interested in consulting with an expert, book a call to discuss with us at WealthTrack. We can help you understand the ins and outs of investing and how to properly assess an asset so that you can continue to grow your wealth, regardless of the state of the economy.
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