Hey Jonathan, How Do I Start Investing For Retirement?

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I’m always flattered when anyone (online or offline) asks me for investing advice, but at the same time I’m very cautious about giving it out. And it’s not just the usual *I’m not a financial professional* legal concerns, but the fact that it’s hard to give useful advice in a few paragraphs or a 5 minute chat. Over time, I’ve been refining my “amateur, informal financial advice over coffee” speech. My goal is to give specific ideas but to keep it simple. Let me know what you think.

1. Put your money in a Vanguard Target Retirement Fund. These mutual funds are an all-in-one basket of different low-cost index funds. You get some US stocks, some international stocks, and some bonds. The mix is automatically adjusted for you. No, they might not be perfect, but they are pretty darn good and very simple to hold. I have specifically have told my own mother to open an account at Vanguard. I withhold any theory talk about passive investing because this is when most people’s eyes seem to glaze over.

Just buy the fund with the date closest to when you want to start making withdrawals. All lifecycle or dated funds are not made the same. The ones in my 401k stink, and I don’t even like the Fidelity Freedom 20XX funds.

The Vanguard funds do have a $3,000 minimum initial investment. Until you have $3,000, just stick your money in an savings account paying decent interest and with an automatic deposit system. I know it sounds nice to “start investing with $100” (and here are some ways to do that), but honestly, if you don’t have $3,000, your focus should be more on saving money by spending less/earning rather than investing at this point. There is no need to rush.

2. Read a good investing book
Websites and blogs are great, but it is still very hard to replace a good book. They tend to be professionally edited, better organized, cover all the bases, and are easy to refer back to. I think the following books are great and are definitely worth the $10-$20 cost:

If you’re not convinced (perfectly understandable), first borrow it from the local library and then buy a copy if you like it. Read as much as you can!

3. Hey, no skipping ahead. Please do #2.
My friends ask me for advice. I say to read a book. Months later, most of them (not all) haven’t read any books but still want advice. Yes, I know, this involves effort. (Gasp!) Please, spend a weekend doing something that will dramatically increase your net worth in the future. If you don’t, then at least if you did #1, you’ll be ahead of most investors who pay too much money chasing hot stock tips or pay other people to chase hot stock tips for them.

4. Pay someone to do it for you
If it’s been years and you still haven’t read a darn book and don’t plan to, go to NAPFA.org and find yourself a fee-only financial advisor that you click with. Pay that person to keep you on track. If they are fee-only they are less apt to be biased on what investments they recommend. But remember, the person who will care most about your money is still you.

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  1. I am always amazed how people are not willing to educate themselves on the subject of investing. For most individuals when I mention the word stock market, they think about rapid daytrading, tradign multiple lots in one day. When I mention to them that I am actually referring to mutual funds/etf’s I sense their disbelief.
    My only piece of advice is that if you really think you can outperform the market through active trading/investing please open a demo trading account and if you are really as good as you claim you are, then go ahead and become the next big shot hedge fund manager. If you are not, then please stick with low cost mixture of index funds

  2. I’ve read “A Random Walk Down Wall Street.” Would you say that covers the same topics as the others on your list? Is it still worth reading yours?

  3. Thanks for that list of 3 books. I did almost exactly what you did with my sister, except I had to finder a different fund as she makes almost 0 money and getting $3K together wasn’t reasonable.

    However, she’s an artsy type, and she thought Bogleheads was just too dry (where I found it far-reaching and yet concise).

    Maybe the coffeehouse investor at 170 pages will be more reasonable.

  4. A great book for the average person is “The Wealthy Barber”. It’s more of a story, so it keeps your attention, but also goes in depth and step-by step on how to become financially independant.

  5. Jonathan, mind if I ask why you don’t like the Fidelity Freedom Funds? Their expense fees seem high compared to Vanguard. Of course my 401k is through Fidelity, so I don’t have a lot of options…

  6. I think you want to not only read good investment books, but read good investment websites. CNNmoney, marketwatch, yahoo finance and sites in the blogosphere like this one.

  7. Matt Schonert says

    The Vanguard STAR fund (VGSTX) is an exception to the $3,000-minimum usual. You can open a Roth IRA with only $1,000 with this particular fund, so it’s not a bad starting point if Vanguard’s other funds are out of reach.

  8. James Lloyd says

    NAPFA is a great organization to find qualified financial professionals. That’s how I found mine. http://www.cathypareto.com

    You still have to be careful about how they are compensated and what services they provide. I prefer a financial advisor who does investment management in conjunction with fiancial planning. Many investment only managers have no clue about other important issues such as IRA rules, beneficiary designation, estate planning etc. Also it’s important at least for me that they are a CFP (Certified Financial Planner).

    For me these were important criteria. I used to manage my investments myself at Vanguard but I am getting older and I need someone to help my wife in the event something happens to me.

    Great Blog!

  9. I’m a wannabe financial planner myself, so I love to field these questions from my friends. My advice is exactly the same as yours. I tell them to read a good book and then invest their money in a target Vanguard retirement fund. What I’ve found is that my friends will typically follow my advice without following up on the reading. I can’t believe that people like my frineds can invest thousands of dollars without taking the time to read a book. It boggles my mind.

    Even more flabbergasting is that people blindly trust “investment professionals” who charge more than 1% of their net worth each year for their “services.” I just attended a lunch-time-forum at work where an Edwards Jones adviser was giving his sales pitch. It was nauseating how uninformed these people are (both the presenter and the audience). They are nothing more than dirty salesmen looking to transfer their clients net worth into their own.

    Read a book, people!!!! It’s empowering. My favorite investment book of all time is a Random Walk Down Wall Street (the newest version is a lot better than previous editions). A little book of common-sense investing would even suffice for novices.

  10. The Fidelity Funds are okay, but

    (1) the expense ratio is higher

    (2) Even though Fidelity has some nice index funds, none of them are included in the Freedom funds

    (3) Instead, there are over 10 actively-managed funds with various objectives and high turnover, subjecting them to transaction losses (mutual funds pay money to buy and sell shares too) as well as making them tax-inefficient.

    They provide no coherent (in my opinion) reason to construct a series of funds in this way, besides making Fidelity some extra money. My 401k used to be with Fidelity as well, and you can still construct a nice portfolio using their Spartan index funds. Also in a 401k, you usually don’t have to worry about minimum balances for multiple funds.

    I also like Random Walk Down Wall Street and Little Book of Common Sense Investing.

  11. Hi Jonathan,

    I really enjoy reading your Web site. This post is a little off-topic, but do you factor in your business(blog equity) in your net worth?

  12. "Mo" Money says

    I like this post, all of your information is useful. It will give me some ammunition the next time some one asks what they should do for their retirement.

  13. What if you marry into a lot of stock? Seriously. Do you go straight for the Fee-Only advice or sit on it to avoid taxes and keep your eggs in one basket? How do people feel about TIAA-CREF vs. Vanguard? I know not everyone has access but otherwise what do you think?

  14. The best thing people can do is to start with their companies 401K. most have a match on contributions that can really help.
    My company matches 25% on the dollar for the first 6%.
    My wife’s company matches 100% on the dollar for the first 3%.

    I was telling one of my employees about my web page on Direct Stock Purchase Plans and during the course of the conversation I found out she had never invested in our 401K plan because she had never planned on being here that long! So now after 11 years of employment she is now enrolled, but that is 11 years of lost opportunity.

  15. Beantown says

    Does it make financial sense (expense ratio) to transfer money out of a Fidelity Retirement Account into a Vanguard Target Retirement Fund?

  16. @Beantown,

    In my opinion it does. For example:

    Using the Vanguard Cost Comparison Calculator
    Initial Investment: 10,000
    Average Return: 9%
    Vanguard 2040 Expense Ratio: .21%
    Fidelity 2040 Expense Ratio: .78%

    Investment Value after 40 years:
    Vanguard: $289K
    Fidelity: $230K

    Almost a $60,000 difference, and that’s only a $10,000 investment… imagine the difference if you invested $10,000 annually!

  17. Don’t forget that you can buy *temporary* alternatives to Vanguard from other vendors until you have $3,000. For example, in my Scottrade Roth IRA account I use the SSgA S&P 500 fund because it has only a 0.18% expense ratio, a $500 minimum, and no transaction fees. Vanguard mutual funds have a $17 purchase fee at Scottrade and ETFs cost $7–which would have almost identical expected performance for US large stocks. So, I can buy $100 S&P 500 every month with no fees.

    In contrast, I’m saving up significant money in ~1% fee international stock and US bond funds, then will trade for Vanguard ETFs periodically. (e.g., a 1% bond fund is $10 per $1,000 while the Vanguard BND ETF has a $7 purchase fee and a 0.1% expense ratio.)

    It takes more time to learn about fund families and extra micromanagement for buying ETFs, but isn’t too hard.

  18. As I’ve become fascinated with finance over the past few years and engulfed dozens of books, I’ve been starting to get the same question (and love answering it).

    Another option to the $3K minimum Vanguard funds is to invest in an ETF. Some accounts can be opened with free initial trades (or free trades each month with a large enough balance). After the initial fee (to buy the fund), the ongoing operating expense is usually half of a mutual fund and if the money will sit for years, you can come out ahead of a mutual fund. All of the Vanguard index funds can be purchased as ETFs as well.

  19. Maybe I’m just harping on the same points:

    Step 0: Assess your definition of retirement

    If you don’t know what you want to “do” in retirement, you will inevitably save the wrong amount of money or save it to the wrong place. The Vanguard Target Retirement Funds are an excellent place to start, but if you don’t know how you want to spend your days from age 70 to 85, then you’re just stock-piling money.

  20. Gates VP: Most people can’t even imagine getting old, let alone figure out how they want to spend their days. Most likely, stockpiled money will come in handy. And it’s better to start sooner rather than later.

    However, point taken. It’s good to stockpile not only money but also hobbies, skills, friends, and probably other things.

  21. Jonathan, my husband has a thrift savings plan which his employer matches up to 5%. We are doing the 5%. We haven’t started any other investment funds after a bad experience with the stock market, and have actually moved our contributions completely to the G fund for now (especially after today!).

    The problem we are facing is entering a higher tax bracket by only a few thousand dollars by the end of 2008. We don’t want to do that, by any means. Do you think we should contribute more to his TSP, even though it isn’t matched, or open a Vanguard account? If we contribute to a Vanguard account, is it tax exempt for now?

    I’ve been putting our money in high interest savings accounts (which also raises our income level) in order to pay off some 0% cash back credit cards when they come due. Should I take some of that money and put it in a tax exempt retirement fund? I’ve just got to keep our taxable income down for this year. Next year we will be putting more in the flexable spending account, which is for medical expenses, but is completely tax free.

    I really need advice on how to lower our taxable income for 2008. I guess my main question is if the Vanguard is tax exempt for the time period you have it in there. Thanks!

  22. I have read The Coffeehouse Investor and it is a fantastic book with a powerful message that goes beyond dollars and cents in encouraging investors to live a life of significance, not just success. Cheers!

  23. Investing on your own for retirement is becoming more and more important. With Social Security in trouble and pensions going out the window, personal retirement savings is increasingly the only option available to people. However, half of Americans don’t have any workplace options for retirement savings. AARP has been pushing for the adoption of automatic IRA accounts in the workplace and Congressman Richard Neal voiced his support for these auto IRAs on AARP’s blog ShAARP Session

  24. A couple of years ago my husband and I started a Roth IRA with American Funds at the recomendation of a financial advisor and because we wanted to start investing for retirement. Now, with further research, I’m wondering if it would benefit us to change to a Vanguard Target fund. We have about $10,000 invested in American Funds. Here’s what I’m considering:
    1) continue with American Funds (after all we’re already paid the 5.75% fee (yikes!) and I know the more we move around the more we pay in fees)
    2) leave the money invested at American Funds and start an account with Vanguard and continue investing there
    3) transfer the money from American Funds to Vanguard

  25. Why would you transfer from American Funds to Vanguard? The funds American has have outperformed most of the index benchmarks they have compared to. The Vanguard fees are a little less but what do you get with it? nothing. Many self investors think Fidelity and Vanguard are the be all, end all. Unmanaged index funds like Vanguard often lag in return to those that are actively managed. Just FYI.

  26. I am on disability of $637. a month income. I may be entitled to an Airforce pension of my ex, I didn’t know about that started in 1996. I am looking at back pay that is owed to me of $73,000. If I win this settlement, I want to invest $60,000. of it. I am 50 now. What is the best place to invest this kind of winfall?
    Many thanks,

  27. Hey Janette: What is the best place to invest this kind of winfall?

    Unfortunately, there is no one simple or “best” place for this kind of windfall. (and anyone who tells you there is a best place without asking 20 more questions is doing you a disservice) The truth is, we only get good answers by asking good questions, so here are a bunch more questions to get you started.

    Big questions:
    – Do you have enough money to financially independent? (it doesn’t sound like) How much more do you need to be financially independent?
    – Are you planning / able to go back to work? When? For how long?
    – If you’re not able to go back to work, do you have an alternate plan? Is there some other way to make money despite being on disability?
    – What are you planning to do “after work”? (“retirement”)
    – How’s your current cash flow? What are your monthly living expenses? What about the cost of your hobbies? How about the pursuit of your dreams? How many “years of life” does $60k actually buy you?
    – How long until you’ll need to dip into that $60k?

    I could go on, but you see my point.

    Quick answers
    Using money for education is a definitely a form “self-investing”, especially if you still have several years of work ahead of you.
    If you need to access that money soon, then you just put it into some form of savings account. If you need to access it later, then you can put it into longer-terms bonds or CDs. If you really don’t need it for a while you can invest in dividend-bearing stocks which will provide some relative return. And if you’re OK waiting for the money to grow, then you can invest in stocks, typically via an index fund (but no guarantees, it may be worth less in 10 years).

    There are risks inherent in each. So you can take your pick. Do some reading on Jonathan’s wonderful site. Hit up his “retirement” articles and start learning. No one but you can adequately answer your question

  28. Here is my reply to GatesVP. I happen to live with my grown son & don’t have to pay out much of my disability. I will never be going back to work. I maybe getting my seperated husband’s Air Force pension & all the back pay from it. I won’t need to dip into the $60,000. As I will pretend it doesn’t exist. What would you do if you
    didn’t have it, then you would do without. That’s the way I have been
    doing the rest of my past life. I mostly want to leave it to
    My kids when I am gone.

    I am looking at the long term mutual funds for retirement package if I get the money.

  29. @Janette: Thanks for the extra information, still some more difficult questions.

    I won’t need to dip into the $60,000…I mostly want to leave it to
    My kids when I am gone.

    Why leave it when you’re gone? You’ll never get to see what they do with that money. Couldn’t it be used to put a kid through college, maybe a grand-kid? Maybe a family trip? Something they could enjoy while you’re still alive?

    It sounds to me like you want to have the money around as a “buffer” until you die, and then you want to give it to your kids.

    If that’s the case then you drop the money into some type of “low-risk” investment: corporate bonds, CD, government bonds, savings account (?) etc. Keep at least some of it in a very short-term investment so that you can have emergency access.

    If my guess is wrong, then ignore the advice. But do ask yourself lots of questions.

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