New to this blog? You can read all of my Finance series here.
Last time, we learned about what index funds are, and why they are much better alternatives to the typical mutual fund which charges a much higher fee to pay for the “professionals” who manage them. I put “professionals” in quotes because it turns out that they are no better at picking winning stocks than an average person. Remember, picking stocks or trying to time the market is a loser’s game. Your psychology will fail you. Don’t play that game!
Let’s start looking at some of those index funds so you can start putting your money in them.
I will use Vanguard’s index funds for all of my examples. Although you can find similar index funds from different companies, Vanguard was the first company to advocate for and implement the index fund idea, and they have pretty much every index fund you may ever want to invest in, all at amazingly low fees!
Specifically, we will focus today on “target-date retirement funds.” As you can guess from the name, these funds are for people who want to save for retirement, and have a specific retirement date in mind. Putting your money into a target-date fund is the easiest way to save for your retirement, because the fund will do all the work for you: staying aggressive by investing 90% of your net worth in stocks initially to take advantage of time and compound interest, rebalancing the stocks/bonds ratio of your holdings as the market fluctuates, and slowly selling away your stocks in exchange for more bonds as you approach your retirement date to make the fluctuations of the values of your investments less volatile.
You will find all of Vanguard’s target-date retirement funds here. Just click on the appropriate retirement date based on your situation, and if you’re feeling curious to see more information, click through the tabs to see the fees (often called “expense ratios”), and holdings (information on what the fund consists of: stocks-to-bonds ratio, and how much of it is invested domestically vs internationally).
While target-date retirement funds make investing for your retirement super easy, do realize that this convenience comes with a fee (still a very low 0.15%, compared to actively-managed mutual funds that can charge ten times that, how criminal!). Keep in mind that you could get even lower fees if you are willing to invest in even simpler index funds that do not do all this fancy re-balancing and re-allocating for you.
So basically, my advice boils down to this:
If you are a completely hands-off investor who just wants to keep funneling money into a retirement fund, then just go ahead and pick one of these target-date retirement funds. But if you want to take it up one notch, and are willing to do a bit more work by choosing specific funds and the ratio to hold them, as well as doing the occasional re-balancing by trading your stocks for bonds or vice-versa, you can get even lower rates by choosing the funds and managing the holdings yourself.
And final note for today since we talked a lot about retirement: you can get huge tax-advantages by doing all of your retirement investing in these special buckets that the government calls “401k” and “IRA”. Unlike regular investment accounts that charge income tax on dividends and capital-gains tax on assets that go up in value by the time you sell them, you can grow your money tax free in retirement accounts in both 401k’s and IRA’s. The government gives you this tax break because they want to encourage you to save for retirement.
Up next: What is a 401(k)?