I have received a number of emails from avid readers of my blog asking ‘how do I start investing?’. The emails typically go like “Hi Henry, I’ve $xxxx and I want to invest it, how and where do I start?”.
You are not alone, WE are not alone. There are a lot of people from different part of this earth that consciously want to increase their financial status and grow wealth through the never-out-of-fashion investing.
However, too often a lot of people fail to achieve their financial goals not because they do not invest, but because they do not prepare themselves well enough before jumping into acquiring investment assets.
Think about farming, it is a great analogy to describe why smart investors get prepared before investing a penny. A wise person doesn’t wake up one morning, and say “I fancy the idea of having a farm, with my $5,000 I should be able to get some seeds and start planting straight-away”.
It is cool to want to start a farm, however, have you considered what kind of plants you want on your farm? On what land will you be doing the planting and is the land suitable for the kind of plants you’re interested in? What are your short and long-term goals for the farm?
In the same vein, there are a lot of things to consider before investing, if you want to become a successful investor, because not everybody that invests, succeeds.
Years back when I started my journey towards financial independence, I couldn’t have started investing straight away, not because I wasn’t earning money to start investing in something, but because I wasn’t in the right state to invest in anything but myself.
In my case, I had a few ideas on what and what to invest in, however, I was earning a considerably low income, had no emergency fund of any sort, and was spending more than I was earning, consequentially always relying on debts to go through every month. Clearly, that was no state to start investing.
I have learned from experience that in order to be financially independent, investing is not necessarily the first thing to do, and in most cases, it doesn’t come anywhere near first on the list of financial goals.
We are all drawn towards the prospects of investing for so many reasons. Some people are thrilled by the prospect of investing $1,000 monthly at a 20% annual rate of return for 15 years and consequentially becoming millionaires. While others are thrilled by the prospect of buying stocks, like TSLA, that can 10x their money in less than 2 years.
Whichever the case may be for you before you start investing your hard-earned money, here are 8 things to consider:
1. Understand and Define your Financial Situation
It is time for self-honesty if there is ever a word like that. Cut the bs you ‘probably’ dish to people around you, cut the hype if any, and look at yourself with a third eye, where are you financially?
How much is your true worth? You probably own assets that are valued at $1,400,000 but your debt profile reads $2,900,000. Are you a ‘millionaire’? NAH, you aren’t even any ‘naire’, except an ‘indebtednaire’.
Or you probably spend way more than your make, have ABSOLUTELY nothing saved, no emergency fund, and IF, heavens forbid, you lose your job, YOU ARE DONE. I know this feeling, years back, one of my greatest fear was waking up one morning, go to work and hear my boss say “you are fired”. If there was ever a reason to become financially wise, the thought of losing my job was one for me.
I know a lot of people who were living large before the lockdown last year, but now they’re begging for food and rent money, up and down, their beloved credit card companies that enabled them to live way beyond their means no longer lay in bed with them.
Not that I rejoice in their ill fortune, but I can’t help but think they brought it on themselves through all those years of reckless spending.
So, before you starting investing, you’ve got to sit yourself down and define your financial situation.
One way to do so is to think about where you hope to be, and then calculate difference between there and where you are now.
Write down a comprehensive list of all your assets and liabilities, which should include your debts (loans), investments, properties, and bank account balances.
2. Develop a Clear Strategy (plan) to improve your Financial Situation
Now that you know where you truly are, it is time to strategize on how to get to where you hope to be. A clear strategy will serve as your guide as you embark on the journey to upgrade your financial status.
You need to clearly state (write down) your financial goals for defined periods of time (1 year, 2 years, 5 years, 10 years plan), ensure they’re realistic and achievable.
I would recommend setting moderate goals, goals that are easily achieved or crazily high tend to have a long-term negative impact.
If they are easily achieved, then you are underachieving and if they are crazily high, there’s a great probability for failure.
More importantly, ensure your short-term, mid-term and long-term plans are not disjointed. In many ways, your short-term goals should help you achieve your long-term goal, they should points on the roadmap of your ultimate financial destination.
3. Build an Emergency Fund (covering up to 6 months household expenses)
Great! You have a clear strategy in place, however, it would be a porous plan if it does not account for unforeseen circumstances. And this is where the need to build an emergency fund surfaces.
Remember my fear of losing my job, and how devastating it would have been to my life and whatever financial plan I have in place. An emergency fund protects me from having to suffer the impact of such a possibility drastically.
If I have a six months emergency fund in place, even in the worst-case scenario of losing my job, at least, I have six months to get my sh*t together.
The same could be said about people who lost their jobs during the darkest months of the pandemic, with an emergency fund, they, at least, have months to figure out how to hold their fort, and are immune to an instant collapse.
Even if you are a business owner (self-employed), you need a personal emergency fund. It is important that everybody has one, and more so for an investor.
When I go out and see businesses that are still closed as a result of the lockdown restrictions, I wonder how the owners are coping. Some of them have their businesses closed for more than a year now, so unfortunate.
In hindsight, it is easy to see how having an emergency fund would make some of them better off than their peers.
An emergency fund is important to you as airbags and a seat belt is to a driver. Airbags and seat belts don’t stop the accident from happening, however, it reduces the impact of the accident on the driver, significantly.
It is okay to start with $1,000 or an emergency fund that covers at least 3 months of your expenses and work towards getting it to cover up to 6 months’ expenses.
4. Pay-off all your High-Interest Debts
Debt is generally bad and you know that, I think there’s little need to reiterate it. Over the long run, one of your financial goals should be to become completely debt-free.
And depending on your debt profile, paying off all your debts could take a lot of money and many months, if not years.
Therefore, you should develop a clear and consistent plan to paying off all your debts.
The general rule of thumb is to start with your most expensive debt (a.k.a. high-interest debts) first. And stop taking on new debts.
You may be asking ‘should I pay off all my debts before investing?’
It is recommended that you pay off all your high-interest debts (like your credit card debts) before investing as doing so will ‘most likely’ provide a better return on your money.
According to data from Statista, the average commercial bank credit card interest rate is 13.63% from 1995 to 2019. Comparatively, the S&P 500 index has historically returned an annualized average return of around 10%.
Using this historic data, the interest on a credit card debt of $1,000 would be $136.30 and the return on a $1,000 investment in the S&P 500 would be $100.
This entails that you are losing $36.30 if you choose to invest the aforementioned $1,000 instead of paying off the debt.
And that is why it is recommended that you pay off your high-interest debts first instead of investing.
5. Get more investing power by Budgeting
Budgeting is one of those things you know you should be doing but can not get around actually doing it.
A lot of personal finance experts make the art of budgeting sound super easy, indeed it is, however, getting started is not easy.
The first few months of life under a budget are usually tough, however, with time it becomes easy and simple as the experts make it sound.
A budget is simply a plan on how you are going to spend your income effectively to help you achieve your financial goals.
It will help you monitor your spending and make it easy for you to cut out unnecessary spending, thereby, increasing the amount from your income that can be allocated towards investment.
6. Ensure that you’re Insured
Just like having an emergency fund, getting the necessary insurance will protect you and your family from unforeseen situations that can lead to a devastating financial crisis.
You certainly wouldn’t want to be an investor without coverage whose loved one received medical attention and is served an expensive medical bill.
As such, ensure to get the necessary insurance coverage, especially health, as it will serve as an effective hedge over your investment plans and overall finances.
Invest to build your wealth, and get necessary insurances to protect your wealth. There is no wisdom in building wealth only to see it collapse as a result of unforeseen situations that could have been avoided if you have the necessary coverage.
7. Understand the different kinds of Asset Classes and Investments
There are so many investment options and different kinds of asset classes you can invest in.
Some examples of asset classes and investment options are equities (like stocks, real estate, and mutual funds), fixed-income securities (like bonds, CDs, and money market instruments), commodities (like cotton, gold, uranium, and gas), and futures contracts.
Before you start investing, you need to understand a number of asset classes (as many as you are interested in), know their characteristics, pros and cons.
One of the fundamental rules of investing is “don’t put your money into something you don’t understand”.
If you are going to invest in something, you got to know what it is, how it works, the whens, the wheres, and whys.
8. Choose the kind of Investments that suits you
As you weigh all the investment options available to you, naturally, you should be able to choose the kind of investment options that suits you.
You will find that you are comfortable with the risk associated with some kinds of investment and uncomfortable with others.
When it comes to choosing from the wide variety of investment options, there is never a one-size-fits-all. We all have different financial goals and years to pursue those goals.
If you are a mutual fund person, go for it. Or if the low-return rate and low-risk (peace of mind) associated with US Treasury Bonds suits your financial goals just fine, there’s absolutely nothing wrong with sticking with T-Bonds.
However, ensure to choose your investment types with diversification in mind. It is generally not advisable to put all your money in one investment basket.
Other things to bear in MIND
- The determination to consistently follow through with all your plans is of the utmost importance
- Investing (especially long-term investing) is a marathon, not a sprint, you will need a lot of patience
- Be prepared to suffer setbacks, nonetheless, always strive to continue going and pushing through barriers.