Why You Should Start Investing Early?

Finance · Sep 23, 2019

It’s believed that investing is something that only the rich and old people should be interested in but an early start can bring many financial benefits.

Illustration

We’ll explain why you should start investing early and what benefits it can bring when you get older.

Table of Contents

Why an Early Start is the Best Start?

There are at least two main reasons why it’s a wise idea to start investing as early as possible:

  • It can (and most likely will) generate additional income
  • It can give you valuable real-life experience

By starting to invest at the age of 20 or even 15 you would end up with a decent capital in your 30s and you would also have a very useful investing experience. These 10-15 years can make a huge difference.

Start Saving Young, Later Might be Too Late

Investing requires savings, savings require income and the most common way to secure stable income is to find a job. To start investing, you should have a basic capital which can be created by saving a part of your income. Savings strategy is often even more important than the way you invest because it determines the speed at which you build your wealth.

Investing and money management play a bigger role with a serious capital but, as long as your savings remain relatively small, a proper approach to saving your income is very important.

Here is an interesting fact:

“The average American in 2018 had about $38,000 in personal debt, excluding home mortgages.”

Something is really wrong with our society if instead of accumulating savings, the majority of Americans increase their debts.

Here is another depressing fact:

“The median savings account balance across American households is $4,830.”

Note that savings account statistics are per one household, but the debt data is counted per capita.

The good news is that the majority of Americans still have jobs and their income allows them to slowly reduce their debt, and in addition to their savings account balance, some Americans have other investments and liquid assets.

Obviously, it can be very hard to avoid getting a mortgage or taking a student loan, but improving your savings strategy is possible and with that come some investing opportunities. How an average American in his/her current financial state (the situation in other countries sometimes even worse) can start investing if a huge part of their income goes to the debt payments?

An interesting thing is that many people acquire a lot of debt (get a mortgage, for example) when they are 25-35 years old, but in the years prior to that, they don’t bother with saving and investing. If a young person had a savings strategy with some irregular part-time job, he/she could end up with a nice financial safety net at the age of 30, which would change the overall picture.

The Magic of Compound Interest

Let’s look at two hypothetical cases of saving with a compound interest income of 7% per year. The annual return of 7% is quite realistic because, historically, the S&P 500 index had grown at approximately 8% per year from the year 1957, according to Investopedia.

So, if a young person starts to save $100 every month at the age of 15, he would end up with $31,696.23 when he is 30, which is close to the average debt of a US citizen at this age. Almost half of this sum would come from the interest income ($13,696.23). Is it that hard to save $100 per month? It’s about one day’s wage for almost any adult and it’s certainly possible for a young man to find a way to legally save up this $100 per month. Sadly, as the statistics tell us, it’s a quite rare case when people follow such a strategy, otherwise, they would have less debt.

Another hypothetical case would be to use the same savings approach, but for a longer period of time, let’s say 50 years (approximately until retirement). In this case, a person would end up with $544,807.09 at the age of 65 and 88% of this amount would be the interest income. This is certainly enough money to pay off the rest of the mortgage debt and finally achieve financial freedom. You can calculate how much money a compound interest would generate for you by using online calculators like this one or by using simple Excel sheets and its formulas.

“Investing is Very Hard and Complicated”

In our previous scenarios, we looked at the most simple way to invest money: to “purchase” an S&P index.

This can be easily done by purchasing an ETF or a different kind of fund which “tracks” that index. Yet, many people still keep their savings on standard bank accounts with a very small interest, often less than 1%.

➤ Read also: 5 Smart Alternatives to Bank Savings Accounts

This minuscule annual return can’t even cover money inflation, therefore it’s impossible to leverage the magic of compounding by having a bank deposit. Things used to be better before the Great Recession and people were allowed have a good return on their deposits but now all of the central banks tend to discourage saving.

A very common misconception is that investing is always risky. What if a market index would suddenly go down and I would lose all of my wealth? This kind of thinking is what many people base their decisions on when they put their money in “safe” low-interest instruments.

The reality is, those 7% returns are historical, which means that while, occasionally, the index can go down, it always bounces back and tends to grow at a rate of 7% in the long run. In recent years, the S&P index performed even better and showed the annual return of 10%+.

➤ Read also: How to Calculate Expected Portfolio Return?

What is more risky: to have your savings lose a percent or two every year due to inflation, or to have a “risk” of not always making that 10% per year (sometimes 5-7%, or even -10%) for a few years, but always ending up with more money in the long run?

You Can Afford to Take Some Risks

Just by purchasing an index fund, you can be much better off with your savings than somebody who’s involved in active trading. A conservative investing approach is quite effective in the long-term perspective.

However, it’d be a good idea to allocate a portion of your portfolio to more risky assets and here is why: in the long run, you can afford to suffer some losses because you have a lot of time to recover.

Even if you experience the recession, after a few years the economy will get back on its feet and your positions will be in the green again. As an elderly person, you would probably choose less risky instruments because you can’t afford to wait for a long time until the market recovers.

So, with your first portfolio, you can try to allocate at least 25-50% of your capital in more risky and volatile assets, it could be even a cryptocurrency or a new startup. Those risky assets should be treated more carefully and you should be an active trader too. You should track them and follow the news to be ready to close your positions if something goes really wrong. At the end of the day, if you don’t only invest passively but also try yourself as an active trader, you would get a very valuable experience and potentially make even more money than someone with a passive conservative portfolio.

“Investing is for Elderly People Only”

The idea that investing is something that only old people should do is dangerously misleading. Many young people still believe in it and they don’t even bother with any personal financial management at all.

These days, a large number of mostly poor or middle-class people expect to win a lottery, get a promotion or a new great job, which will magically improve their financial situation but they don’t want to bother with saving and investing. As you might know, some people would even buy a new expensive cell phone or a car by using credit just to show off and to look cool.

The mentality of young people should be changed if we expect to have a financially healthy and independent generation. The main way to start on this is to tell your kids about the basics of the financial literacy, as Robert Kiyosaki taught in his “Rich Dad Poor Dad” book (we do not endorse this particular book nor its author, who is known to make many misleading claims about himself but many of his ideas are indeed true and valuable).

Experience is More Important Than Profit (Sometimes)

At a young age, the knowledge and experience are often more valuable than money. A financial lesson can play a major role in a person’s life, especially if this lesson was learned at a young age. That’s the reason why starting saving and investing early is the best way to go.

No one expects a kid to outperform Warren Buffett but a kid can learn a lot by trying to do so, which would have a chance to turn him to the next Warren Buffett as he gets older and wiser.

So, it’s smart for a young individual to invest a portion of his portfolio (25-50%) to the more risky assets and to practice active investing as well as the passive approach. An active and risky investing should be combined with some risk management strategies like the 1% rule in order to prevent significant losses.

How to Save Enough to Start Investing?

If investing at an early age is that good, how can a teenager save enough to start? How can a 15 years old boy save even $100 per month? The legal working age in the U.S. is actually 14 years (reference), which is not that well-known fact. Therefore, even 2 workdays per month with the minimum wage (or 4 workdays of 3-4 hours a day) can generate such an amount of money. It’s understandable that making your kid to do the real work at this age can seem cruel but there is no way around it. If you just give the kid free $100 to invest, he/she wouldn’t feel that this money is earned and if he saves his lunch-money, this wouldn’t have the same effect too. If 15 years is too early, there is certainly nothing is wrong with working 1-2 days per week starting at an age of 18.

How to Start Investing as a Teenager?

There is one more technical question that may come up: how a kid can buy and own an ETF? Is it even legal?

It may not be legal, but there is a way around it. A teenager can use his parents as a proxy, the same way adults use brokers to get access to the market. A kid can just give his savings to his parents and ask them to open a separate brokerage account for him, that’s it. After a certain age, maybe around 18 years old, his parents can transfer this money to their kid’s private account.

Conclusion

Many children these days grow up in some kind of a bubble. Their parents do a lot to protect them from the real world for as long as possible and that may be the right approach in many cases but it has its disadvantages. By delaying the contact with the real world and money, a kid wouldn’t be ready to face the hard reality and he/she would need more time to adapt to it.

To understand the value of work, the value of money and the advantages of smart saving and investing, an individual should be exposed to those things as early as possible, perhaps starting light and safe in form of a game and then progressing to real-world finance. An additional 10-15 years of real-life financial knowledge and experience can be a critical factor that could turn a poor person to a member of the middle class or even to a rich individual.

The last argument here is that by starting to invest and save money at a young age you basically have no risk at all. A part-time job would require just about 15% (1/7 days) of the personal time, which would be instead wasted on computer games or something like that, and even if a kid loses all of his savings, it’s still going to be a super-valuable lesson that will help him later in life.

investing   capital   finance   income   management   market   money   personal finance   portfolio   strategy

This page doesn't show ads and the reasons are simple:

  • Most people don't want to see ads (what a surprise)
  • Ads can track you and violate your privacy
  • Ads is the main reason why many websites are so slow

If you find this content valuable or you want to see more content like this, you can leave a tip with bitcoin:

3LW2Q71yaeaKM4ZxVdeMkLViRGp7HEiJDS
bitcoin tips QR