Welcome to Chapter 5! At this point, thanks to our incredibly helpful guidance, you’ve of course started investing for retirement. Obviously. (You have, right?)
By definition, then, you’re already building wealth. And the great thing is, once you’ve done the work of opening an account and picking your investments, your “save for retirement” goal doesn’t take much care and feeding.
With long-term savings, you can pretty much set it and forget it, as long as you stick to a handful of rules.
5 key steps to building wealth
These five simple rules will help keep your retirement savings on track and growing for the long haul — and that means a Future You who’s financially secure. Who doesn’t like the sound of that?
1. Automate your savings
Life is busy. Maybe you noticed? That means you need to make sure you’re contributing to your retirement account automatically. Because you know that any “must. do. this. now.” task that suddenly stares you in the face — paying your credit card bill, watching that puppy video — is going to feel much more important in the moment than “saving money for some future date decades away.”
You want your money quietly working for you in the background, no matter what’s happening in your life or in the world. That’s where automatic savings comes in. And hey, you’ve already nailed this with your 401(k). (Paycheck deductions, anyone?)
With a little work upfront, you can mimic that process with your IRA: Link your bank account to your IRA account and set up regularly scheduled transfers. (Some companies let employees automatically send money to their IRA from each paycheck. Ask your employer if that’s a perk at your workplace.)
An added benefit to auto-saving plans is that you get to think less about your retirement account. Why is ignoring your account a good thing, you ask? Because when the market’s tanking and your account balance is trending down, you don’t want your hands anywhere near the “sell” button. Investing in stocks means riding out the tough times — and putting your savings on autopilot can make that easier. Incidentally, stock market crashes are a great time to distract yourself with a puppy video or two. (Seriously not kidding here. Here’s more on what to do when the stock market crashes.)
2. Revisit your savings once a year
As we’ve been saying, when you’re investing for a date far into the future, it’s absolutely fine to let your money just sit there, quietly enjoying the highs (and surviving the lows) of the financial markets.
But it’s also true that you probably shouldn’t ignore your account entirely.
Here’s why: Thanks to the market’s gains and losses, your original asset allocation — how you divvied up your money among different types of stocks and bonds — will shift, and eventually get out of whack.
For example, say that when you opened your account, you decided to invest 70% in stocks and 30% in bonds. If the stock market has since increased in value, the proportion of your stock investments is going to grow; now maybe 80% of your holdings are in stocks.
Since bonds are a more conservative investment than stocks — they have less potential for growth, and less potential to plunge in value — your investment account would be riskier now compared with when you first created your retirement portfolio. If there were a stock market crash and your portfolio was 80% in stocks, rather than the 70% you’d originally chosen, you’d be in for an unpleasant surprise.
To reduce that risk, you need to rebalance, which means getting your investments back to the percentages you chose originally. (Now, if you’re investing in a target-date fund, you don’t need to rebalance — the fund manager will do it for you. And the same goes for many robo-advisors, which automatically rebalance your portfolio. That’s one of the perks.)
One way to rebalance is to temporarily change how you’re investing — for example, if your allocation to stocks has become too heavy, direct a larger portion of new account contributions to bonds for a bit. Slowly, as you invest more money, you’ll shift the percentages you’ve invested in each asset class back to where you wanted them.
There are other ways to rebalance, too: We describe four methods in our guide to how to rebalance your retirement investments.
Financial experts have different opinions on how often you should rebalance. Generally, once a year is fine for a well-diversified investment portfolio. Pick a date and make it your rebalancing holiday, celebrated each year by spending a few minutes getting your investments back into balance. (Cake is optional, but encouraged.)
If all this talk of “asset allocation” and “rebalancing” is bringing on that overwhelmed feeling, that’s understandable. Just breathe deep and remember there’s a really easy way to get going on your retirement-savings goal: Hire a financial expert to help you.
That pro could be a low-cost robo-advisor — a company that uses technology to help make financial planning accessible. If that sounds appealing, take a look at our top picks for best robo-advisors. Or you could hire an actual human with whom you can talk things through. Check out our story on how to find the best financial advisor for you.
3. Hike your savings rate
Did we mention that it’s awesome that you’re saving for retirement? It’s awesome. And you’ve already done the hardest part: getting started. The next step is easy: Hike up your savings rate a little bit every year.
It’s easy because you can do it if and when your income rises. Say you get a raise or a bonus or some unexpected found money. Why not send just a little bit of that out to your future self? And if the year isn’t great financially, you can always choose not to do it.
Small increases in your contribution rate can have an outsize effect on your future financial security. Check it out:
Remember how you need to visit your account once a year to rebalance? On that same date every year, see if you can’t inch your savings rate just a little bit higher. Or, even easier: See if your 401(k) gives you the option to switch on annual auto-increases — if so, go flip that switch right now.
4. Avoid high fees
The same way that saving just a tiny bit more every year can push your retirement savings to lofty heights, seemingly small fees can have the opposite effect, taking a huge bite out of your account over your lifetime — you could lose more than $200,000 to fees in your 401(k) alone, according to a NerdWallet study.
Still not convinced? Check this out:
So how do you make sure that money goes towards your retirement lifestyle, rather than to some random investment company? One solid way is to make sure you’re investing in low-cost index mutual funds (if you’re not 100% sure what an index fund is, consider revisiting Chapters 3 and 4).
What counts as “low cost,” you ask? A mutual fund with an expense ratio of 0.50% or less is a decent deal, though the best 401(k) plans offer mutual funds that charge less than 0.20%, which, obviously, is even better. The good news? Average 401(k) investment fees have been falling in recent years, to an average 0.45% for stock mutual funds in 2017, down from 0.77% in 2000.
Fees are so important. Don’t skip this! Maybe gather some friends and have a “cut the fees” party? You’d each log into your IRA or 401(k) account, then click through to the summary page for each of your investments. The main fee to focus on is the expense ratio. Can you find a mutual fund with a similar investment objective, but a lower expense ratio? Just think: The money you save on investment costs will more than make up for the price of the wine you’ll most definitely need to bribe people to come to this, um, party.
5. Stick with the market
With a goal like retirement, the stock market is your friend. That’s not to say it can’t be scary. It can be positively petrifying when the market tanks. And it will tank — it always does. But it always goes back up, too.
If you’re investing in a diversified portfolio — and of course you are! — then you’re investing in thousands of companies in the U.S. and abroad. To avoid the market is akin to saying: I think most companies worldwide are going to fail.
Rationally, we can agree that while many businesses do fail, many others thrive, and new companies are constantly emerging. Witness how 40 years of stock market investing can pay off, compared with leaving your money in a savings account or — gasp — under the bed:
When the market is tanking, it’s no surprise that plenty of investors find themselves thinking this: “Well, I’ll just get out of the stock market now, and get back in later, when things are looking up.”
Trouble is, it’s impossible to know when the market’s going to turn around. And by exiting the market, even for a short time, you risk missing out on all kinds of gains.
So the next time the market falls, try this mantra on for size instead: “This is the best sale ever, and I don’t even have to get up off the couch or click away from [enter name of whatever show you’re currently binge-watching]. Thanks to those periodic transfers I’m making from my paycheck to my retirement accounts, I’m currently buying new mutual fund shares at a fraction of what they cost during the market’s high point. When the market does turn around, as I know it will, I’m going to own way more shares than before, and they’re all going to rise in value.”
Pat yourself on the back. You’re a bona fide investor. A planner of retirement. A saver of derring-do! Now go out and tell some friends how it’s done (or send them a link to this guide).