Size matters. You need money to make money. Go big, or go home.
You may have heard some of these cliched statements before when it comes to investing -- that you need a huge upfront cache of cash to put into the stock market if you want it to make a difference in your finances.
It’s not a very encouraging prospect if you’re early in your career, and you’re earning barely enough money to pay off your student loan debt, your rent and your monthly bills. Once your expenses are paid, there’s very little left over to save in a bank account, much less build a portfolio of stocks and bonds.
It could be one reason why very few Millennials, especially those between 18 to 25 years old, own stock -- just one in three compared to older generations, like 50 percent of Gen Xers with money in the market, and 48 percent of Baby Boomers.
Lower financial literacy, especially around the stock market, is just one reason why younger adults haven’t jumped on the investing train. It could also be that the expectation to start big right out of the gate might be intimidating to some people, who’d rather put their money towards something (or someone) else.
Here’s the thing, though: The dollar amount you contribute can make the biggest difference in your potential gains. Picking the right investments -- what types of accounts, and where -- is important, but the amount you put into your investment may make the greatest difference.
So how can you invest more if you don’t earn enough money, and what will your finances look like over time if you increase the amount you invest? Here’s how to make those small investments turn larger over time.
How much you invest matters
Investing, no matter if you earn a small or a large income, is one of the best things to do if you want to become more financially secure, build a better nest egg, and ready yourself for whatever expenses life may bring you (including retirement).
Aiming to invest 10 to 15 percent of your income is an ideal target range; the smartest approach is to invest your money for at least 10 years (ideally longer) if you want to see any measurable return on your investments. And that’s more important than any rate of return you might realize.
Let’s say you started off small: $50, the cost of a monthly gym membership, a week’s worth of groceries, or 10 trips to Starbucks. You’ll make an additional $50 annual investment, at a 7 percent rate of return, 3 percent rate of inflation, and a 15 percent tax rate. Using an investment calculator, here’s what your money will look like after a decade:
Initial deposit: $50
Annual contribution (for 10 years): $50
APY: 7 percent
Inflation rate: 3 percent
Tax rate: 15 percent
Total 10-year investment yield: $995
Now, $995 isn’t a lot of money to write home about if you’re going to wait 10 years for it. Saving more aggressively by increasing your initial deposit and annual contribution means that the interest rate attached to your investment/savings product has more to work with. Look at it like you would a car loan; it’s great to be approved for a low interest rate, but the factor that makes the biggest difference in your overall payment structure is the amount of money you put down up front.
For example, if you were to invest $100 up front, with a $100 annual contribution, and the same rates in place, your total 10-year investment would be $1,571. Even if you cut your interest rate in half, from 7 percent to 3.5 percent, you’d still yield $1,313, more than you’d initially have earned at the $50 investment level.
Using the power of compound returns, taking your dividends and reinvesting them, and increasing your regular contributions is a proactive way to increase your total gains versus sitting back and letting your interest rate do the work.
Some easy ways to invest
It might be a bit of a time waster to make the $50 deposit we mentioned above and wait 10 years just to walk away with only $1,000 in earnings. It also might be unrealistic to invest now for long-term gains of $1,000, or $5,000 or more if you’re living paycheck to paycheck now. But the examples above illustrate what you can do when you start small and graduate to larger investments over time.
That’s not to say that you can’t invest with a smaller amount, or that you need to be the next incarnation of Warren Buffett to make money off the investment front. Here are some easy ways to invest when you don’t have a lot to invest:
Robo-investing: These automated investment vehicles (of the Betterment and Wealthfront kind) are one of the best options for beginners new to investing who want to grow their funds simply, accessibly and affordably. Robo-advisors use computer algorithms to find the best investment path for your money and allow you to start with a minimal deposit amount.
Peer-to-peer lending: Online clubs like Lending Tree, Prosper or Upstart use crowdfunding to connect peers with peers -- those who want to lend money to those who need to borrow some. If you’re in the former camp, going P2P may be one avenue to make small investments by lending money to peers who’ll pay you back with interest. Be mindful that some P2P loans go into default when borrowers refuse to pay up -- so lend with caution.
DRIPs: Dividend reinvestment plans give investors a chance to buy additional shares from publicly-held companies whose primary stocks might be too expensive or cost prohibitive for the average consumer or novice investor. The benefits of DRIPs are their low or no fees, which can cut down on your costs and leave more money to invest.
CDs: Certificates of deposit are a special type of non-liquid, high-yield savings account that yields a higher rate of return as long as account holders keep their money locked away on deposit for a specified period of time. An alternative to traditional deposit accounts, CDs require low deposits to start and generally range in terms from six months to five years; the longer your term, the higher your APY will generally be.
Your employer’s retirement plan: It may not seem like it, but a 401(k) or company-sponsored investment plan doesn’t need any large deposits or hefty fees to participate. Automate as much as you can out of your paycheck towards the plan. In my first 401(k), I was depositing only 3 percent of my income and worked my way up from there. If your employer participates in contribution matching, it’s one way to increase your earnings (and it’s free money so find a way to take advantage of that match!)
IRAs: Everyone always talks about the maximum you contribute to a Roth IRA ($5,500 for investors under 50), but that’s not the same as the minimum allowable deposit, which is next to nothing through certain providers. Providers like TD Ameritrade, E-Trade, Fidelity and Vanguard are all prime IRA choices with no account minimum required.
Investing is all about the small and big of things, that making small differences in the amount of money you invest can make a big impact down the road when it comes to your finances. Feeling pressured to invest as much money as you can all at once can leave you stressed out and broke.
Keep investing simple and go at your own pace. Start any way you can, look at your options, increase the amount you deposit as you go, and let the power of compounding interest work in tandem with the money you devote to your investment accounts. By diversifying and maximizing, investing will turn out to be a venture that pays itself off -- literally.
Image: Tax Credits