Are You a Saver or Investor? Try Both Hats
Dear Dr. Don,
I'm 31 years old, and I've never worked with any type of financial planner or adviser. I've managed to save about $70,000 through hard work, and I've been storing it in a regular savings account, gaining little interest.
I would like to invest that money in something that would garner me a little more interest without losing any of it, but I have no idea how to take the first step. Should I look for a financial adviser, invest in stocks or do something else? Please help.
-- Marc Money
Dear Marc,
I make a distinction between saving and investing. With savings, you're more concerned about protecting principal than you are about the interest rate you earn on your savings. Savers put their money in bank accounts, savings bonds and perhaps in U.S. Treasury securities. I say "perhaps" because while the face value of the Treasury security is guaranteed at maturity by the U.S. government, the security's price varies over time with changes in the interest rate environment. If you have to sell prior to maturity, you could lose principal.
Investors worry about loss of principal, but they're also concerned about the loss of purchasing power. If their investments don't earn a rate of return higher than the inflation rate, their purchasing power declines. People invest to build wealth, not to see the purchasing power of their wealth erode.
So are you a saver or an investor? If you're a saver, get some of that money out of the low-yielding savings account and put it into a certificate of deposit, or CD. You could even look at building a CD ladder, where you own several maturities of CDs. When a CD matures, you reinvest the proceeds into a new long-term CD.
If you're an investor, I know it's a paradox, but start out by putting some of the money into savings as an emergency fund. That fund should be equal to three to six months' worth of living expenses. The balance you can invest, but now you must decide whether you're a do-it-yourselfer or you need some professional advice. If you're going to go it alone, you need to learn about investing.
Many investors invest with an eye toward a future life (financial) goal, such as retirement, children's education, etc. What do you want to accomplish with the money when you're done investing and ready to spend it? Your goal gives you an idea of your investment horizon. A longer investment horizon lets you accept a little more price volatility in your investments. In other words, you can accept some risk in your investments.
Investors have to choose between active management, where they're trying to beat the market, and passive management, which typically means using market index funds, where investors are content for their investments to "be the market." The typical retail investor is better off with passive management, with its lower annual expense ratios.
Asset allocation also is important. In Wall Street lingo, it's the allocation of investment between stocks, bonds and cash. That breakdown can go a lot deeper when you consider the different investments available in those categories and even expand the allocations to include precious metals, real estate and commodities.
If you decide to get professional help investing, my key recommendation is that the financial professional be a fiduciary. As a fiduciary, the professional is required to put your interests first when investing your money. I lean toward financial planning professionals, especially ones operating on a fee-only model.
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