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Tuesday, September 9, 2014

Why I Stopped Listening to My Mom & Started Investing in the Market

Tuesday, September 09, 2014 Posted by Chris Tung , 1 comment

If you're a millennial, you grew up during a few significant economic events: the incredible growth of the '90s, the burst of the dot-com bubble and 9/11 in the early '00s, and the Great Recession of '08 caused by the collapse of the housing bubble. Although we may not have thought about them when they were happening, it's very likely that we still felt the negative impacts of these events in someway or another. As a whole, we have seen one too many financial crises, and combined with overwhelming loans required to educate ourselves and a relatively uncertain job marketing, it's not surprising that our generation has a generally more conservative view of money.

It's these major events that my mother points to as reasons to keep money in very safe investment options, choosing to put her savings in 401ks and CDs, and although these methods have saved our family from major financial meltdowns, I have finally decided to stop listening to my mother and realized that there's a significant amount of benefit in investing some of my earnings into the market.

However, before I explain, I want to first say that my mother's investment techniques are not bad in any way. 401ks are an incredibly important part of anyone's financial portfolio, and with a variety of tax benefits and some employers offering employee-matched contributions, almost everyone should put some of their income in 401ks. In addition, my mother is also much older than I am, and so her risk tolerance is very different. However, as a millenial with more time to withstand future peaks and troughs in the economic, I believe it's very important for us to stop doing what our parents tell us and take our financial future in our hands.

APY - Inflation Rate = ?

Assume you're financially secure, putting money into your 401k, but you've a generated a small surplus in your checking account, and you're thinking about putting the money in a CD, here's what a $10,000 investment would look like if you found a 5 year CD that would give you a 2.25% annual percentage yield (APY):


After 5 years, you'll generate a nice $1.18k or a 2.35% gain on your investment. Although that's definitely better than not investing at all, the problem arises when you subtract the long-term average inflation rate of 3.22% from your APY and you end up getting a return of -.87%. In short, although you were able to see a gain in your investment each year, you've also lost a small amount of your purchasing power every year due to inflation.

Instead, let's look at how your $10,000 investment would have grown if you invested in an exchange traded fund like Vanguard Total Stock Market ETF, and to illustrate my point, I've also picked a period of time right before the market took a deep dive in mid-2008:


As you can see, the year after the stock was purchased was a brutal one. In fact, it took almost three years in order for the stock to return to the original purchase price. However, after those three years, the stock continued its rise, and after five years, the investment would be valued at $12.3k, which means the APY of the investment was 4.74%. If we subtract out the long-term average of inflation like we did with the CD account, then the $10,000 invested in VTI would have had a net gain of 1.52%, which means that your purchasing power would have beaten out the rate of inflation!

To close out this comparison, here's what the two graphs look like if we extrapolate the data to the present and compare a six year CD investment against someone holding VTI from June 2008 to June of 2014.

So, what now?

Ultimately, your investment decisions are entirely your own, and everyone has their own levels of risk tolerance and investment horizons. However, I hope my post got you thinking a bit more about what options are available to you and how you can make your money work for you. Because, if all you're doing is putting your savings into incredibly safe options or, even worse, not putting your money in any investment vehicles at all, your purchasing power will continue to decrease, and your financial future becomes more uncertain. In the end, it's important that we stop listening to our friends and/or families to advise us on what is best for us. You should do your own research, make your own choices, and take all the steps necessary to secure a financially prosperous future.

Appendix

For anyone looking for a few places to start their research, here are a few sites that were immensely helpful when I started my own research:
  • Investopedia: A massive dictionary of investment terms that can provide you a pretty full understanding of just about anything related to investing. If you don't know your 401ks from your IRAs, here's a great place to start, and even if you do have experience in finance, it's always a great place to double check your understanding of a term.
  • Bogleheads: A great place to get advice from the masses without anyone trying to make a buck off of you. Also, this was the place that I visted to learn about a basic Three-fund portfolio, which is a great way to smartly invest in the market without having to do too much work.
  • Reddit.com/r/personalfinance: Lastly, this is the place subreddit that I read pretty much everyday. Whether you're looking for advice given to someone in a similar situation to you or you're looking for articles or sites to continue your research, I've found r/personalfinance to be an active community of people that are either financial responsibility and willing to give advice or people that want to be financially responsible and need help.

1 comments:

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Sometimes parents are not right with the decisions but this is our duty to explain them about each and ver decisions that want to take.