When you make the important decision of investing your hard earned money, it’s like you were getting ready for an important trip. You know your final destination, but you may ignore how you will get there. You will obviously hit a few speed bumps along the way and your pace and time to complete your trip may vary. Did you pick the right vehicle? Do you know what influence your investment performance? There are actually 6 factors influencing how much you will get from your investment and then there is the most important one that deserves all your attention first.
When you invest
Many people wrongly think the timing you invest your money is important. In fact, your investment return will vary greatly over the first 1-2 years. The moment you put your money in, the market will greatly influence the result. But if you plan for a long trip and think of investing for the next decade or more, the exact moment you invest will have little to no effect on your return. You don’t believe me? Here’s what the worst market crash looks like 10 years later:
Off course, if you have a crystal ball and you sold everything in 2007 and you put all your money back in on March 9th 2009, your return will be a lot better than 105%. However, you and I both know the last crystal ball you saw had snow falling and a big guy dressed in red laughing “HoHoHo!” in it.
Therefore, the best time to invest your money is always yesterday. The second best time is today and the worst time is tomorrow. I understand you are nervous about the market right now. This is why you should read how to invest in an all-time stock market high.
The taxes you pay
Did you know you could pay lots of taxes on your investment? First, if you invest in a taxable account, you will pay immediate taxes on dividend and interest paid… even if those amounts reinvested! Therefore, even if you don’t touch a single penny, you may end-up paying taxes at the end of the year.
Imagine you wrongly invest your money in a taxable account instead of shelter your money. This means you reduce the money you make for no reasons. The sad thing about tax optimization is that you often need an expert to make sure your money is invested in the right type of account for your situation.
I definitely suggest you ask your accountant what the best way to invest your money is. Each type of account has their specific rules and various tax rates may apply. For example, U.S. dividend paying stocks for a Canadian can be taxed at 0%, 15% or 30% depending where the money is. Interesting, isn’t it?
Investment in other countries
On top of taxes, investing in companies from other countries also implies a currency exchange variation. Many Canadians tell me they are concerned about investing in the U.S. market since their dollar is stronger than ours (currently around 1.2: 1). Then again, this is a false assumption that currencies have a strong effect on your portfolio. Similar to market timing, currencies will greatly influence the value of your portfolio. However, over the next 20 years, the final variation will be less than 1% annualized return – positive or negative.
My advice in this situation is to always invest in the best companies, regardless of the currency. A good company will grow a lot faster than any currency over the next decade. If you doubt it, I’ve pulled a few examples of how stocks grow faster than currency here.
Inflation will bite you
When you think how much you will spend at retirement, you probably think in today’s dollar amount. Have you figured how fast prices of most things you buy on a weekly basis increase? Just think of your grocery bill 10 years ago…NO, in fact, you might not want to think about it!
If you invest your money into super safe and super low yielding vehicles, chances are inflation will eat your return. You will never notice as your portfolio will continuously show you a bigger amount, but when you think of how much you will need to pay for your grocery bill in 30 years from now, the amount might not grow fast enough.
My advice is to focus on investment vehicles that, all together, will offer a better return than inflation. We can usually see a correlation between the inflation and the stock market. In other words; if you have enough money invested in equities, the inflation issue should be covered.
The fees you pay
Aah… the fees you pay! There is very little control you can exercise on the stock market, but if there is one thing you control; it is the price you pay to invest your money. Investment fees could be ridiculous. MERs, fees charged by mutual funds and ETFs can be as low as 0.05% but as high as 3%+. Imagine the kind of return you must make if you pay 3% MERs and there is a 2% inflation? This means your first 5% return goes to bust….
If you don’t have the intention of managing your own money, this means you must pay someone to do it. In all honesty, if you can find an adviser that will follow-you and write down a solid plan, you should go for it and pay his fees. Unfortunately, this is the type of adviser that is A) very rare and B) usually busy with high net worth clients. Therefore, you might want to explore robo-advisors options.
I think it’s crucial you sit down at least once a year and gather all your investment statements. Grab a highlighter and find those fees. If you can’t find them, give an urgent call to your adviser and ask him for a clear and detailed list of fees you pay him. There is nothing better than a clean reality check to save some dollars.
How much you invest
Another thing you have full control of, is the amount you invest. Obviously, the more you save, the more you invest and the more you will have for your retirement. If you can invest on a regular basis, this enables you to benefit from all the market downturns. Instead of trying to time the market, you simply have to invest on a steady basis; either bi-weekly or monthly, according to when you get your paycheck.
I think the best way to grow your investment is to have a direct deposit into your investment account. It hurts your bank account the few first times and then you eventually learn to live without this money.
How long you invest
Another important factor that you control is how long you will put your money to work for you. Are you aware of the effect of compounding interest? Famous scientist Albert Einstein said:
“Compound interest is the eighth wonder of the world. He who understands it, earns it … he who doesn’t … pays it.”
If you can start saving in your 30’s or even better in your 20’s, you will have no problem building a little fortune for your older days. I started saving in my 20’s and at the age of 35, I already have over $180,000 invested.
But what really makes the difference? Your Asset Allocation… and a solid investment plan!
The secret sauce is not always exciting. Unfortunately for you, I don’t have a surprising and exciting final point. In fact, the most important factor that will or won’t make your investing journey a success is your investment plan, more precisely – your asset allocation.
When you ask around and people tell you how much money they lost on the market, ask them how they invested and if they had a plan…. The answer will be shocking. Interesting enough, a good asset allocation will make you avoid major pitfalls and will likely recover faster from bad years on the market. As an example, you can see how a well-built portfolio can easily beat the market.
But the asset allocation alone is not the solution. A good asset allocation will meet your investment goals and will respect your risk tolerance. This can only be achieved through a solid investing plan. In my career as a private banker, all clients I’ve seen that had successfully retired without any money concerns were the one with a solid plan. If you are without a clue, you can always start by reading how you can start your retirement plan here.
Readers, what about you? What is the factor that influences your investing journey the most?