Albert Einstein stated that “compound interest is the eighth wonder of the world. He who understands it, earns it; he who doesn’t, pays it.”
Most Americans know the benefits of saving and investing early to take advantage of compounding, yet many (if not most) of them don’t.
Why is that?
There’s
not just one answer as to why Americans are not investing, but there are some
reasons which are given more than others. Most often, the reasons/excuses I
hear from clients are:
1)
My expenses are just too high. I don’t have anything left over after my
expenses to save and invest.
2) I don’t trust the financial industry enough to invest.
3)
The market is inflated and it is due for a correction.
4)
I cannot emotionally handle the volatility of the market.
I’m
not one to dismiss anyone’s reasons for not investing in the market. However,
the downside of not investing, and particularly, not starting early, are
well-documented. To address each of the items above:
1)
If your expenses are too high and you don’t have anything left over after your
expenses to save and invest, start with a smaller, disciplined approach. Treat
saving for investing as if it was a tax. If the government was taxing you 25%,
you could not come up with an excuse that you don’t have enough for those
taxes. If you treat investing as something which is not discretionary, but more
like an obligation like taxes, you can deduct a small amount from your paycheck
or bank account directly to have it invested as part of a disciplined
approach.
This
strategy is used most often by employees and their 401(k)s or their health
insurance. It works because there is no “pain” associated with having
to take money out of your account – it was never deposited there in the first
place.
2)
The financial industry has earned its share of criticism in the media – and
much of it is well warranted. The trick is to get yourself in front of a
financial advisor whom you can trust. Most often, this is not going to be your
local bank or insurance agent.
Ask
for referrals and try to find someone who is independent (that is to say,
someone who is not obligated to serve the interests of their employer). Ask if
they are a fiduciary 100% of the time. If they are a fiduciary, they are
required to act in your best interest. If they’re not a fiduciary, they are
held to a lower standard-suitability. Even the best hearted people in the
industry sometimes have conflicting goals due to mandates by their financial
brokerage employer.
One
piece of advice a client has given me: “if they have a football stadium or a
professional sports arena named after them, chances are they’re not
independent.”
3)
Is the market inflated? Maybe. Or maybe not. The point is if you make sure that
you are invested with the right mix of risk and reward, your investment horizon
should be dictating whether or not such a correction (if and when it happens)
does not impact your lifestyle.
A
30-year-old investing today can take a substantial amount of risk, particularly
with their retirement accounts, because they’re expected to work for a longer
period of time. A 55-year-old may need to adjust their risk downward,
thereby not subjecting themselves to market fluctuations as much. Even during
our most recent financial crisis, from 2007 to 2009, if you held your course
and didn’t overreact, today your money would be more than doubled. That’s even
if you got in days before the big drop.
The
point is: you can’t time the market – nobody has done so consistently over
multiple periods, so don’t try. Make sure you stay within your risk zone and
rebalance as necessary.
4)
Everything sounds great on paper, particularly when it’s backed up by evidence
– but the reality is, we are human beings. And you’re entitled to your
emotions. It’s important to discuss with your financial advisor how comfortable
you are with receiving a statement that shows losses.
As
an example, when you exercise strenuously or challenge yourself learning a new
skill, there is short-term pain and even some frustration in order for you to
get the positive results you’re seeking. Sometimes it might be a bit of an
emotional roller coaster. If it’s causing you stress or anxiety, it is probably
because you may not know, or may need to be reminded of, the positive results
you’re seeking. Knowledge will help with emotional volatility most of the time.
Sometimes, knowledgeable even do that for you. In that case, it’s time to make sure that the risk you are taking is appropriate and necessary. It also helps identify different risk pools – knowing that you have an emergency fund which is adequate, and sometimes more than adequate, can help with the emotional impact involved with investing.
Lastly,
if you trust your advisor and you have the right person at the helm, you may
not want to check the market on a regular basis. Intraday, intra-week, and
intra-month fluctuations have been happening since the beginning of the
market. So long as you know you have a long-term goal, there’s no need to
suffer anxiety from these short-term fluctuations that may never impact you.