Posts Tagged ‘Investment Basics’

What asset mix should I choose?

One could argue all day about this subject, so, for the sake of being simple I will provide you a peak into my portfolio ( what types of stocks and bonds and such make up my investments), and how I decided upon my current mix. But before that, here are some general rules you can use to figure out your mix:

There is a general rule you can use to determine what mix of stocks and bonds you should have and it is as follows: 100 less your age = % Stock / Bonds. So, let’s say you are 20. 100-20= 80 or 80% of your mix should be stocks, and the other %20 should be bonds. This is a conservative rule. The rule I use, which is quite a bit more liberal, is 120 less your age. So, for me, 120-30 = 90. So, around 90% of my portfolio is invested in stocks, the other 10% is in bonds. Keep in mind that stocks, over the long haul, will beat the heck out of bonds.

I would suggest using somewhere in between, but you should consult a licensed professional before you make a mistake on your own. This is only to show you what I have done and what others have, not necessarily what you should do – as your situation may be different than mine.

Now, for my portfolio:

First, I must provide you a background of myself:

• I turned 30 this Sept. 6, 2008.
• I want to retire comfortably by the time I am 55. So, I have 30 years to invest and generate a stream of cash for my retirement (even though my investments will still generate money when I go into retirement).
• I plan on living until I am 85 (to play it safe), if I die earlier someone else will get my free loot (I have 3 kids, so this wont be an issue)
• My house will be paid off by then. The only bills I anticipate are normal living expenses and helping the kids out if needed.

I want to have $4,166 or so per month to support my wife and myself (I need my damn golf money) or I need $50,000 per year for 25 years (1.25 Million dollars) to live comfortably after retirement (I am not even considering inflation here).

I would need to invest (assuming I am starting today) about 10,000 per year until I retire (If I were earning 11% return on my investments. Now, the stock market over time has netted investors around 10% return, so, I don’t think my assumptions are too unreasonable. How did I calculate this? You can either do it manually, which would look like this (10,000 x 1.11) = 11,100 X 1.11 = 12,321 X 1.11 …. and so on until you are up to year 25 in this case and you will come back to 1,144,133 after 25 years of compound interest, which meets my goal. Or, you can use a nifty tool in Microsoft Excel. The tool in excel is called the FV (future value) function. With this tool, you simply enter the interest rate you are earning, the amount of time you will be investing, and the annual payment or contribution you would make. Voila, excel is much faster.

Now, my current portfolio is 91% stocks and 9% bonds. I would be considered an extremely aggressive investor by some, and others would just say I’m aggressive. I would think I’m somewhere in between those two descriptions. In future lessons, I will be more specific as to what I invest in and why. Here is a much more detailed analysis that I created showing you how and why I picked the particular investments I did.

Don’t stop now, you’re almost there! The next lesson is; What stocks should I buy? Where I discuss how it is impossible for anyone without your details to know if a stock is right for you or not.

Don’t have time to carry on now? Come back at your leisure, but don’t wait too long, every dollar wasted is a dollar not working for you. Also, consider signing up for my daily updates sent right to your in-box. Don’t worry, I hate spammers too.

Your company doesn’t offer a 401k, no problem

Skip this if you are only interested in 401k’s

Many of you by now are asking me “What about us guys that aren’t offered a 401k by our company.” And others who run their own small business are asking the same thing. No problem, our trusty old government knew a while back that they wouldn’t hold true to their obligations on social security (I’m just over 30 and do not anticipate getting a dime back that they are taking from me now – and you should think the same way), and there’s nothing you can do to stop them from taking your money, unless you’re Amish or part of a religion that is exempt from this requirement). So, the government gave us citizens a break on our taxes, so we could do it on our own. For those of you who don’t have a 401k option, you can invest in a few similar plans to the 401k, they are as follows:

• 403b-just like a 401k, but this is for government and non profit companies (like hospitals and schools).
• Keogh plan: This is for people who run their own business, it is their own benefit plan (just like company pension plans).
• IRA or Individual retirement account (also known as a traditional IRA) – the government allows you a certain maximum amount of money you can contribute (this money will be invested before you pay taxes on it-so it will be taxed at retirement, making this a smart decision if you have lower income when you are retired – which most of us will). The 2008 limits are $5,000 if you are under 49, and $6,000 if you are over 50. You can invest in brokerage firms (places that are licensed to sell stocks), or banks and such.
• Roth IRA or a Roth Individual Retirement account – same as an IRA, except you pay the taxes now instead of at retirement.
• Invest on your own in stocks and bonds

For the small business owner interested in looking into the benefits of offering a 401k for your employees as a recruitment and retention tool check out: ShareBuilder401k, Wells Fargo, ADP. It’s usually completely free to get a quote, and there are numerous tax benefits for your company (even if it is only for you).

Keep going! The next lesson is; Getting down to the details. This lesson talk about how my 401k plan is setup and general rules that can be used to setup your plan (deciding your asset mix).

Don’t have time to carry on now? Come back at your leisure, but don’t wait too long, every dollar wasted is a dollar not working for you. Also, consider signing up for my daily updates sent right to your in-box. Don’t worry, I hate spammers too.

Here is my road-map to understanding investing and building a retirement plan for yourself, whether it be through a 401k or any different type of investment offered by your employer or available by banks or brokerage firms. The lessons I offer will teach you step by step, what you need to know or consider before you start investing. By following these simple lessons, you will learn many things, but most importantly it will help you set your objectives and goals and provide you with a clear direction you need to take in order to start investing properly and to help you get started retirement planning. So, follow the lessons in order, they are setup in chronological order (starts with the basics and then gets more detailed).

Here they are:

1. Learn about 401k’s in general and why you should invest.

2. Learn about the importance of Compound Interest and how it can make you money.

3. Learn about diversification and the keys to being successful in all market conditions.

4. Learn about how to make a retirement plan for yourself and family, and how to determine what your risk tolerance is and what approach you will need to take in investing. Determine how much money you will need for retirement.

5. Learn the difference between retirement savings and benefit plans and the different investment types available to different types of workers (government, private companies, individuals not being offered a 401k by their employer, etc.)

6. Learn about the different types of investments you can buy (stocks, bonds, cash, real estate, etc.).

7. Your company doesn’t offer a 401k, no problem. Expanding on lesson 5, detail about plans available to those without a company sponsored 401k plan.

8. Getting down to the details. This lesson talk about how my 401k plan is setup and general rules that can be used to setup your plan (deciding your asset mix).

9. What stocks should I buy discusses how it is impossible for anyone without your details to know if a stock is right for you or not.

10. Mutual funds are what 401k investors must choose from, learn what they are in general here.

11. Mutual funds detailed discusses in depth the various types of funds offered by all mutual funds.

12. Selecting which mutual funds suit your needs best should be fairly simple and straight forward now, with what you have learned. This is how I selected mine.

13. You’ve decided to invest outside of your 401k, and need advice on how to get started. This lesson will touch on the basics of analyzing stocks and bonds.

14. Fundamental Analysis Basics.

15. Technical Analysis Basics.

More lessons to come soon.

A crazy little thing called Asset Allocation

In our first few lessons I talked about the types of risks people should be taking depending upon their ages, and how to play it smart when you want to be risky and or when you are close to retirement. This lesson will focus on categorizing your major investment choices in your 401k. Within your 401k plan or similar, you will be able to select to invest in Bonds, Stocks, Cash, and or other small categories like Real Estate and such (considered long term choices).You can invest in all or one, or none for that matter. In addition, you have shorter term choices such as money markets, CD’s from your bank and or other savings type accounts. For now, we will discuss the long term options in greater detail, because we are focused on retirement planning here.

So, what are these different types of assets and how much of each would be the best for you? First, let’s start off with talking about what each category or asset type within your investment choices are:

Bonds: this type of asset is the rather secure or less risky than stocks. In general, bonds offer set interest payments for your investment. Bonds are typically sold by governments and corporations to pay for different things. The US federal government sells all sorts of different bonds to help build bridges, highways, and a bunch of other stuff. Government has a plan to generate the money to pay off the bonds through different means and in case of the US government, they have an excellent track record of paying back what they are supposed to. Because these payments have almost always been paid back, they aren’t considered very risky, and the amount of money they pay you in return for investing in them is substantially lower than other more risky asset options. There’s also municipal bonds, offered by none other than local municipalities. Corporations and other types of entities have these same investments that governments offer, however, they may be slightly riskier as they are only backed by townships and or a Corporations good name.

Stocks: Stocks are the biggest chunk of an average investors portfolio (or mix of assets). You can find so many different types of stocks, it would blow your mind. Stocks offer the greatest potential for growth and at the same time the greatest risk for loss. Stocks can be very risky or not risky at all, it depends on the nature of the stock in question. Stocks can pay dividends or payments to shareholders for holding the stock which can offer some (semi-fixed) income for retirement. Most 401k investors or similar invest in stocks by buying mutual funds or exchange traded funds. Companies like Vanguard or Fidelity buy up a pool of stocks, sometimes similar, sometimes very different, and individual investors can buy into all of those different companies or industries or geographies by simply purchasing shares of the mutual funds.

Cash: This is less risky than Bonds and is even backed in some cases by the Federal Government of the USA, but it is the least profitable. When you put some of your money into cash, you are typically investing in different types of savings accounts, money markets, or various other things. The biggest problem with investing in cash is the risk of inflation (when your money buys less and less due to rising cost of living or an increase in the money supply). You can hedge this risk of inflation by investing in different marketable securities such as TIPS.

Real Estate and other types of Investments: There are many small investments you may elect to invest your cash in, however, keep in mind that each one of these has their own set of risks and rewards. You can invest in real estate through mutual funds, or by acquiring your own properties.

Now that you understand what each of the major categories you can start to think about how to allocate your assets within your 401k based upon your retirement needs and your risk tolerance. So, when we talk about “asset allocation,” we are really talking about how you should spread your investments among the different options available.

In the following lessons, we will discuss how you determine what mix of assets would best suit you, or a typical person of a certain age.

But next up, Your company doesn’t offer a 401k, no problem. Expanding on lesson 5, detail about plans available to those without a company sponsored 401k plan.

If you’re only interested in 401k plans and don’t care to learn about this, feel free to skip the next lesson and move on to Getting down to the details. This lesson talks about how my 401k plan is setup and general rules that can be used to setup your plan (deciding your asset mix).

Don’t have time to carry on now? Come back at your leisure, but don’t wait too long, every dollar wasted is a dollar not working for you. Also, consider signing up for my daily updates sent right to your in-box. Don’t worry, I hate spammers too.

The importance of Compound Interest

My guess, you are thinking – no technical jargon, please. Well, Compound interest sounds more complicated than it really is. In a nutshell, compound interest is making money off of the money you already made, or interest off the interest you’ve already made (this is why credit card companies have gotten so rich).

Let me make this even simpler for you by showing you an example of how compound interest works: When you invest $1000 at 5% interest, at the end of the year (assuming the interest is compounded annually, some places compound more frequently, results in better return for you) you will have $1050 ($1000 times 1.05). So, you made $50 interest on your money.

If you keep that same investment in for another year and at the same rate, you will have $1102 ($1050 times 1.05). So, you will have made $52 in interest the second year, or a couple of dollars more that the first year, on the same intial investment.

The third year, you take that $1102 and reinvest it once again, and now you have $1157, or you’ve made $55 in interest. The following year you do the same, take the $1157 and reinvest it at 5% interest. The results are you now have more than $1214, or over $57 in interest made in one year.

Do this for several more years and your interest earnings will grow exponentially and you will be extremely happy with the results.

So, why is this important you ask? Well, as you see in the above example, if you keep reinvesting your money – you will get greater and greater returns (for doing nothing more than reinvesting your money)!

The next lesson is: Learn about diversification and the keys to being successful in all market conditions.

Don’t have time to carry on now? Come back at your leisure, but don’t wait too long, every dollar wasted is a dollar not working for you. Also, consider signing up for my daily updates sent right to your in-box. Don’t worry, I hate spammers too.