We should all love to save our money; however, many of us have a tough time when it comes to investing. Putting our money into the stock market can be intimidating if we don’t understand the reason why.
The last couple of years have been nice for our high-yield savings accounts and other savings vehicles because interest rates have been high.
However, if inflation is 6% and we earn 5% with our high-yield savings, we still lose purchasing power. Investing our money helps us stay ahead of inflation.
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Prerequisites before investing in index funds. There are some checkboxes to check before we start investing in index funds.
The most important asset we need before investing is our emergency fund. It does not need to be a fully funded emergency ($30,000), but it needs to be more than a starter one ($1,000).
For the sake of argument, let’s say we need to have $5,000 in our emergency fund before we invest. Remember, we don’t want to sell shares of our index funds once we input the money—an emergency fund helps prevent early withdrawals.
Next, we want to review our debt obligations. We don’t want to have thousands of dollars in high-yield credit cards, student loans, or automobile payments.
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For reference, the stock market generally returns 8-10% annually. Therefore, if you have debt with interest rates higher than 8-10%, it’s a good idea to pay these off quickly.
Once we have a handle on our debt load and a nice-sized emergency fund, we can start investing in index funds. But why are index funds necessary?
The importance of index funds. Index funds are the simplest way to capture the stock market’s returns. On average, the stock market is going to return more than inflation.
How do index funds beat inflation consistently? The stock market is full of businesses. These businesses stay alive by raising prices to adjust to the economic situation.
Companies raise prices to ensure they always make a profit. For example, let’s look at a Big Mac from McDonald’s (MCD).
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In the 1960s, a Big Mac cost $0.45. Today, it costs $5.00. The same goes for McDonald’s stock. Investing $1,000 in MCD in 1979 would be worth over $300,000 (with dividends).
Most individual companies will not be as successful as McDonald’s; however, that’s where index funds come into play. Index funds are baskets of companies you can purchase under one umbrella.
So, one index fund can hold Starbucks (SBUX), Exxon Mobil (XOM), Altria (MO), Johnson & Johnson (JNJ), Costco (COST), and hundreds more companies.
As these mega corporations slowly raise prices and grow profits, we can benefit from the price increases of our index funds. That’s how we beat inflation over the long term.
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Where to invest in index funds. Now it’s time to put our money where our mouth is. If you are new to investing, it’s best to begin with a “starter” brokerage account like SoFi, STASH, or Cash App.
More prominent brokerages may not allow you to purchase fractional shares of index funds. This is important because one share can range from $200 to $400 apiece.
You want to be able to dollar-cost average into your index fund positions. Dollar-cost averaging is the process of investing a set amount every week or month into your funds.
Over the long term, you will purchase more shares when prices are low and less when prices are high. Consistently buying $200 of shares per month can lead to massive gains over 20+ years.
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It’s easy to set your “starter” platform to withdraw $200 automatically from your checking account on the first of each month. Becoming an automatic investor is the best way to build wealth over time.
Which index funds to purchase? Now that we have an emergency fund, lowered our debt, and opened a brokerage account, it’s time to choose our index funds.
I always champion four types of index funds. Remember, purchasing index funds is like going to Walmart and buying coffee. There are tons of different brands that taste the same and offer the same properties.
- Total Stock Market– There are index funds that track the entire stock market, which includes over 3,700 companies. My favorite total stock market index fund is Vanguard (VTI). Yahoo Finance.
- S&P 500- The S&P 500 includes 500 of the most successful companies in the US. Tons of index funds track the S&P 500, but my favorite is SPDR (SPY). Yahoo Finance.
- Dow Jones Industrial Average– The Dow Jones Average includes 30 “blue chip” value companies that have proven themselves to be the best in their respective industries. My favorite Dow Jones Index Fund is SPDR (DIA). Yahoo Finance.
- Nasdaq 100- The Nasdaq 100 includes 100 of the fastest-growing companies in the US and the world. My favorite index fund that tracks the Nasdaq 100 is Invesco (QQQ). Yahoo Finance.
Long-term plan for your index funds. Now that you are dollar-cost averaging into your index fund positions, that’s pretty much it. Continue to do this for 30 to 40 years, and you will reap all of the benefits of the stock market.
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Many people will sell shares of their index funds to generate income for retirement. I am not one of these people. I like to create dividend portfolios that can fund my retirement.
However, an extensive collection of index funds can also serve a purpose. Let’s say you have $100,000 in index funds and need $20,000 to pay for your child’s wedding.
You can create leverage by borrowing $20,000 against your $100,000 portfolio. You should get a lower rate since it is a secured loan.
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Let’s say you got a rate of 5%. Remember, the stock market generally returns 8-10% annually over long periods. So, your loan would allow you to keep your money growing faster than your interest.
Many people don’t like leverage, so you must decide how to proceed. I admit, it’s an excellent problem to have ($100,000).
Conclusion. However you decide to use your index funds, the key is to start investing now. I personally don’t ever want to sell shares.
You may invest index funds in your Roth IRA, traditional IRA, or taxable brokerage account. You can use all three to your advantage.
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Congratulations on stepping into the world of investing. Most people will never crossover into this side because it does involve some risk.
The best way to overcome your fear is to define your risk. You will take on inflation risk if you want to stay with your high-yield savings account versus investing in index funds.
If you invest all your money in index funds, you take on emergency risk. Understand what risks you have and create ways to mitigate them. That’s how you become a successful investor! Good Luck!
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Disclosure: I am not a financial advisor or money manager, and any knowledge is given as guidance and not direct actionable investment advice. I am an Amazon Affiliate. Please research any investment vehicles that are being considered. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article. All Right Reserved Military Family Investing
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