We’re spending 2018 around here exploring a new topic every month in order to live our best lives.
Way back in February we explored personal finance basics. This month we’re going to go a bit deeper and explore a bit more complex personal finance topics. Our focus will be on investing and the economy as a whole.
We’re going to open the month today with a justification of why we need to cover any of this:
Investing is necessary.
If you want to retire, you need to invest.
The old model of retirement income in the United States is that of the three-legged stool. Some of your income would come from a pension, some from Social Security, and some from your personal savings and investments.
One of those legs has been chopped off completely and another is constantly being threatened with the ax by one of the two political parties. If you want to retire in the future, you need to manage it mainly with personal savings and investments.
Retirement Might Not Be By Choice
Even if you don’t want to retire, you still need to invest.
We’ll cover these topics in more depth later in the month, but there are all sorts of changes occurring in the economy that may not give you a choice of when or if you want to retire.
Jobs are disappearing. Wages are dropping. The value of labor is in decline. Automation and globalization are waiting to replace you with robots and low-wage workers in other countries. The gig economy is working to replace your full time job with benefits with a part time job without.
All of these forces are at the doorstep. If we aren’t investing, we can easily be overtaken by them.
Americans Aren’t Investing
And here’s the problem: We’re not investing.
Only about half of Americans have any money at all in the market. That number is under one third for the 18-29 age bracket.
And even that may be overly generous. Only 27% of the middle class has over $10,000 in the stock market. If we’re looking at a few thousand dollars to protect us from job loss, old age, and health problems, we’re in trouble.
Investing and Risk
While some people aren’t investing because they don’t have the money, others aren’t investing because they’re afraid of losing money in the market. This is especially true of Millennials.
Millennials are saving money much better than their parents, but aren’t investing it.
This is problematic for two reasons.
First, you’re losing buying power to inflation.
Let’s say you put away $10,000 ten years ago and still have it today. Cool! You have $10,000!
Except that your $10,000 is worth less today than it was ten years ago when you saved it. It is in fact only worth $8,683.51. You’ve lost over $1,300. Your money has lost 13% of its value.
And that’s assuming the money has only been sitting for ten years. The longer that money sits around gathering dust the less it is worth.
The second problem is that you’re missing out on the benefits of compound interest.
For a more thorough explanation of the benefits of compound interest, I recommend checking out JD Roth’s 2008 post, The Extraordinary Power of Compound Interest, but I’ll give you a quick rundown here.
Compound interest is the concept of your interest earning interest.
You invest money. Your money earns interest. Your interest earns interest. Your interest’s interest earns interest. The longer your money is invested, the more this process can repeat.
Basically, compound interest allows your money to grow exponentially. It is far more powerful than saving alone.
The Magic is in the Numbers
Let’s look at some numbers.
Let’s say that you invest $100 per month for 30 years and it grows at an annual interest rate of 8%.
At the end of 30 years, you will have saved $36,000. But your account balance will be over $150,000. You will have $36,000 of contributions and over $114,000 of interest.
The magic of compound interest has grown your contributions by over 400%.
(I highly recommend spending some time playing with a compound interest calculator. You can read all of the articles you want on compound interest, but you can’t really understand the full implications until you toy with the numbers yourself.)
As Complicated As You’d Like
Investing can be scary and overwhelming. I totally get it. The whole reason I discovered the financial independence community is that I spent months researching different accounts, stocks, ETFs, and mutual funds before doing anything at all. The world of investing seemed so large and daunting that I wanted to make sure I didn’t screw up and lose all my money.
What I’ve learned since then is that investing doesn’t need to be complicated. We’ll explore later in the month the best types of accounts to set up and where to set them up. We’ll learn about the best funds to invest in, the simplest strategies to make money through investing, and the common pitfalls to avoid.
Investing can be as complicated as you want it to be. There are all sorts of complex strategies and products that you can choose to pursue if you want. But you don’t have to. You can secure a solid financial future without spending years learning the ins and outs of different types of derivatives.
So take a deep breath, remember that investing is necessary, and join us in our month-long exploration of investing and the economy.
Join the Conversation!
What’s your investment origin story? Did you struggle to get started? What triggered your first step into the investing world? Let us know in the comments!