Approaching the topic of investments can be very daunting for many people. I talk to people every day on both ends of the spectrum from knowing nothing to knowing everything and everywhere in between. I am often surprised at some of the questions I get from people about investing, especially when they have been putting money away in one form or another. Based on the questions I get in daily conversations with people, I have developed a list of 3 rules for investing.
- Keep It Simple Stupid
I borrowed this one from our good friend Dave Ramsey (and one of my favorite shows, “The Office”) because it is so good. Many people think that in order to be successful in their investments, it needs to be complicated. There is an incorrect belief circulating out there that complicated is more sophisticated. It’s not. In fact, usually it’s stupid because you don’t even understand it (see rule #3). Investing does not have to be complicated. It can be simple. This is going to require a little effort on your part to learn the basics of investing, especially if you are on the end of the spectrum that you don’t feel like you know anything and have no experience. Often people know more than they give themselves credit for, other times people give themselves too much credit and think they know more than they do. Find that happy middle place where you are confident in what you know and what you don’t. Dave Ramsey recommends a very simple approach to investing. He recommends investing money into growth stock mutual funds with a long track record (of greater than 10 years) that have outperformed the index funds over time. If you are comfortable with real estate (owning rentals and being a landlord), invest in some real estate as well. He has some very specific do’s and don’ts of owning rentals that I will cover in another post.
2. Diversification Lowers Risk
I just outlined the 2 things Dave Ramsey recommends investing in – growth stock mutual funds and real estate. He often says “Money is like manure—when left in a pile, it stinks, when spread around, it grows things.” To diversify simply means to spread around. It is important to diversify your investments because the more you have invested in one particular thing, the less opportunity you have in other avenues. Mutual funds themselves are fairly diversified as they contain many different company stocks. You can further diversify your mutual fund investments by choosing mutual funds from different categories. Dave Ramsey recommends choosing mutual funds from 4 different categories: aggressive growth, growth, growth and income, and international. He recommends keeping 25% invested in each of those categories to maintain diversity. Aggressive growth mutual funds will generally include stocks of smaller companies that are projected to grow. Growth mutual funds include larger companies that are projected to grow. Growth and Income mutual funds focus their efforts on companies that are projected to grow, but also pay dividends regularly. International mutual funds hold positions in companies outside of the US.
3. Never Invest in Something You Don’t Understand
The worst thing you can do with your money is trust the smooth-talking salesperson in front of you that uses terminology you don’t understand to sell you a product that makes no sense to you, but he promises it will all work out for your benefit. If it sounds too good to be true, it is. Never invest in something until you fully understand the way it works, where exactly your money is going, what the fees involved are, if there are penalties involved for pulling your money back out, etc. There are unfortunately many people who have been hurt financially for making this mistake. Learn from them and don’t let it happen to you. Find someone you can trust to look over the product or investment and clear up anything you don’t understand. This is one of the wonderful advantages of having a great financial advisor in your corner. Work with someone who will break things down in bite-size pieces for you. Someone who will not get frustrated with all your questions, even if you ask the same question several times to make sure you understand. You need someone who will be patient with you and truly wants to help you learn. Having an advisor who just tells you what to do and tells you to trust him is a red flag. This is your hard-earned money; it is your job to understand where it’s going and ultimately make the decisions on what you want done with it. Don’t blindly hand over that responsibility to someone else. Find someone with the “heart of a teacher.”