Millennials, Don't Let This 1 Mistake Ruin Your Financial Future
The Great Recession had a huge impact on every generation, but perhaps none more so than millennials who came of age during this challenging time. It left them understandably afraid of taking on too much risk and experiencing another financial loss, but some have taken this conservative approach too far.
Twenty percent of millennials say they will never invest in the stock market, according to a Wells Fargo study, and 32% said they don't believe the stock market is a good place to grow their retirement savings. But saving enough without the stock market is difficult and may even be impossible for millennials buried in student loan debt. I'll explain why and how you can take advantage of the stock market's growth opportunities without exposing yourself to too much risk.
Saving for retirement without investing in the stock market
If you refuse to invest your money in the stock market, you have a few choices. First, you can keep all your money in a savings account, but this approach is almost guaranteed to lose you money. Even the best high-yield savings accounts offer annual percentage yields (APYs) of only 2% to 2.5%. Inflation, by contrast, has averaged 3% per year historically. So if you leave your money in a savings account long term, it may grow, but it'll actually lose value because inflation will climb faster.
You could also invest your money in things other than the stock market. If you want to play it safe, try a certificate of deposit (CD) or government or municipal bonds. A CD is a special bank account that offers higher interest rates than traditional savings accounts, but you must promise not to withdraw your money before a predetermined date or you'll pay a hefty penalty. Interest rates depend on the term length but can exceed 3%.
Government and municipal bonds are debt for federal, state, or local governments. You pay them now to buy the bond and they pay you back with interest over time. They're considered pretty safe because the only way you wouldn't get your money back would be if the government went bankrupt. But if you purchase the bond when bond interest rates are low and they later rise, you may have to take a loss if you want to sell the bond before its maturity date -- the date when the organization is supposed to pay all the money back to you.
You could also invest in other things like gold, real estate, or peer-to-peer lending. These may not be the stock market, but they still have risk, and there's still a chance you could lose money. If the housing market in your area takes a turn for the worse, your real estate investments could take a big hit. And even if these alternative investments are doing well, they may not offer you the same returns that the stock market could. Over the past 30 years, the price of gold has risen by 241%, but the Dow Jones Industrial Average has risen by 962% -- and that doesn't even include the dividends that the Dow's stocks have paid along the way.
Why you should invest in the stock market
It's OK to use some of these alternative investments, but if you really want a comfortable retirement, you should still consider investing in the stock market because it can offer sizable returns. Historically, the stock market has had an average annual rate of return of 7% after you factor in inflation. Yes, it can be risky, but you can mitigate that risk by investing wisely. Diversify your portfolio so you don't have too much money in any one asset or sector, like energy. If you don't have a lot of money to start with, invest in mutual funds or exchange-traded funds (ETFs). These are baskets of stocks and bonds that you buy as a package for instant diversification. Index funds -- mutual funds that passively track a market index -- are a good choice because they're affordable and they tend to perform well.
While bonds are viewed as safer investments than stocks, you should invest more heavily in stocks while you're younger to take advantage of the higher growth potential. Don't panic over short-term losses. Millennials have decades left before retirement, and that's plenty of time for stock prices to recover if they take a hit. But as you age, you should transition more of your money into bonds to reduce your risk of loss on the eve of retirement.
If you're not sure how to invest wisely, consider hiring a financial advisor who can manage your investments for you. Just make sure you choose a fee-only advisor instead of a fee-based one. Fee-based advisors earn commissions for recommending certain investment products, and this can create conflicts of interest.
Millennials saw the worst side of the stock market in the late 2000s, but they also saw it at its best during the 2010s. Don't avoid investing in stocks just because there's a risk of losing money. It's more likely that you'll earn solid returns over time, and this can take a lot of the retirement savings burden off your shoulders.
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