Beginner’s Guide to Investing
Do you want to start an investment portfolio but aren’t sure where to begin? We are here to help you! In this beginner’s guide to investing, you will learn what type of plan to use, what the best investments for beginners are, and how to how to actually invest the money. We want to help you get invested! After all, what are Partners for?
The first thing you need to learn in the beginner’s guide to investing is what type of plan or account you should be investing in. The three best account types for beginners are employee sponsored plans, individual retirement accounts, and brokerage accounts.
Employee Sponsored Plan
If your employer offers any type of match, then the first thing you absolutely need to invest in is your employee sponsored plan. Many employers will offer matching contributions of up to 5%! That’s like getting a 5% pay raise! It’s basically free money, but you only get it if you contribute. So, if you work somewhere that offers the match, take it! Start there!
Individual Retirement Accounts
Regardless of whether your employer offers a plan or not, you should be putting money away for retirement. Luckily, most investment firms offer Individual Retirement Accounts (IRAs) to let you do that! There are two types of IRA, the traditional one (usually just referred to as IRA) and the ROTH IRA.
There are two major differences between the IRAs, and whichever you chose will depend upon your individual situation. The traditional IRA is a tax deferred account. That means you can deduct all of the money you put into it from your taxes each year. It also means that you will be penalized for taking out any money before you hit 59 and a half years old. When you reach retirement age and start withdrawing, you will have to pay taxes on your withdrawals as if they are income. If you need the money before you reach the minimum age, you will have to pay the taxes and an early withdrawal penalty. You definitely want to avoid that!
The ROTH IRA is different in both of those regards. You cannot deduct your contributions from your taxes (because you are investing post tax dollars), but you aren’t penalized for taking any of your initial investment out (you are penalized for taking out any profits). You also won’t have to pay taxes on anything that you withdraw when you reach retirement age (as long as you’ve had the account for more than 5 years. There are lots of withdrawal rules for the ROTH IRA, and you can read about them all here)
The main thing you should take into account when deciding upon which IRA type you want is your tax strategy. Do you want to pay the taxes now or do you want to pay them later? Because either way, you are going to pay.
The biggest issue with both types of IRA is the contribution limit. You can only put $5500 into any type of IRA account per year if you are under age 50, and only $6500 per year if you are 50 or over. If you want to save more than that (and you should!) you need a different type of account.
Non-Retirement Brokerage Accounts
The last account type for investing that I’d suggest to beginners is a brokerage account. These are great because not all of our investments are meant for retirement. You may be on a path to financial independence, so you may need to start withdrawing money from your investments before you get to the traditional retirement age. There are plenty of companies that offer non-retirement brokerage accounts. Some banks even offer them as well. Vanguard is my favorite, but there’s also Fidelity, Merril-Lynch, Edward Jones, and a whole lot of other investment management companies (you can also open IRAs with these companies, if you want all of your investments in one place).
Types of Investments
Ok, so you’ve decided upon what type of account you need to open. The next step in our beginner’s guide to investing is to decide which type of investment is best! There are basically only three different types of investments that I would recommend to beginners. These are index funds, target-date funds, and mutual funds.
Index funds are my favorite type of investment. They are low-cost funds that track certain market sectors. They usually aren’t actively managed, so whatever companies are tracked in the fund are the ones that you are invested in. One of the most well-known index funds is the S&P 500, an index fund that tracks about 500 of the biggest companies in the US.
My favorite types of index funds are full market index funds because they basically track the entire stock market. I highly recommend Vanguard’s total market fund. It is well-diversified and has a super low expense ratio. That means that it won’t tank if only a certain sector of the market tanks and it doesn’t cost a lot to maintain. Additionally, it is very very rare that a total market fund will completely go out of business. The markets may have a correction and go down, but as long as you stay invested you probably won’t lose money over time. Remember losses aren’t real until you cash out.
Some folks prefer to invest in dividend growth funds rather than typical index funds. Be sure to look at the pros and cons of dividend growth investing before you decide to jump in.
Target Date Funds
Target date funds are index funds that automatically adjust the amount of risk they are exposed to as the fund holders get closer to retirement. This means that they will slowly sell off equities and move into bonds as the target date gets closer.
My work has 6 different options for target date funds: 2025, 2030, 2035, 2040, 2045, and 2050. Every five year a new fund gets created. I have some of my money invested in the 2040 fund, because that is when I’ll be close to retirement age. My older coworkers are invested in the 2030 or 2025 funds, because they are much closer to retirement.
The target funds are the absolute best for people who hate actively managing investments. If you want to be a “set it and forget it” investor, this is the best type of fund for you.
Mutual funds are another good investment for beginners. Usually, a mutual fund will track a certain sector of the market. Some mutual funds are dedicated to certain sized companies while some invest in certain industries. Mutual funds are usually actively managed, which means that somebody is working every day buying and selling stocks to try to boost the fund’s performance. This also means that they have a higher expense ratio (cost more!). All of the people invested in the fund are paying the fund manager to make those trades. Sometimes this ends up being beneficial, and the fund outperforms the general market. Sometimes it doesn’t. Investing is inherently risky. If you do decide to invest in mutual funds, be sure to diversify and pick a few different ones. That way, you are protected if something happens to a certain sector.
How to Invest
The last main step in our beginner’s guide to investing is how to invest. There’s really only one option that I like, and that’s dollar-cost averaging. With this method, you take a regular amount each paycheck/month/week and invest it. I have $100 per paycheck automatically going straight to Vanguard, regardless of what the market is doing. Sometimes you are buying when the market is up, and sometimes you are buying when the market is down. It averages out over time.
Its also super easy to do. You just have to set up an automatic withdrawal from your checking account or bank account. Most investment firms have an online step-by-step, so it’s super easy to set up.
The other methods are lump-sum purchases and investing when you have the money. Investing at some point is better than not investing at all, but if you make it a regular thing it’s easy to stick to. Also, with dollar coast averaging, you don’t even think about timing the market, so it’s great psychologically too.
Beginner’s Guide to Investing
So there you have it, a quick and hopefully easy beginner’s guide to investing. I hope this helps you start your own journey to financial independence. We also published a post outlining the bad investments for beginners, check it out to learn what not to do!
And, if this is all too much for you, you can check out Acorns or other online platforms for stock trading and start passively investing your spare change! It’s a great way to dabble in investing if you’re just starting out or don’t have a lot of capital.
If you have any additional investment ideas or tips that would help beginners out, please feel free to share them in the comments!
Melanie launched Partners in Fire in 2017 to document her quest for financial independence with a mix of finance, fun, and solving the world’s problems. She’s self educated in personal finance and passionate about fighting systematic problems that prevent others from achieving their own financial goals. She also loves travel, anthropology, gaming and her cats.