Sage investment advice for millennials, gen-y’ers, 20-somethings
Millennials have the potential to beat the pants off of their parents when it comes to investing. I say this because there has never been a more open and transparent flow of information about the stock market, and how to invest in it, than there is today. If you are in your twenties, and you are careful to avoid the scam artists and snake oil salesmen that plague the investment industry, you have a better shot at becoming financially secure and independent than your parents or grandparents.
While researching this topic I ran across a question that was presented on Quora, and some of the answers were outstanding. I picked one that resonated the most with my own beliefs and experiences as a professional investor, and show it below. It was written by Jonathan Eng, who I assume is a millennial himself but has no bio on the Quora website. [Read the original question with all answers here].
Jonathan Eng:
A useful way of breaking down this problem is to address the following orthogonal components:
A) whether/how to save for retirement
B) how to save for medium-term goals like marriage and buying a house
C) what to do with the rest of your money.
This way of structuring the problem implicitly acknowledges that you care about your future self, would like to even out your utility curve over time, and (potentially but not necessarily) want happiness to increase steadily over your life span.
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A. Investing for retirement
The top answers on this post say to invest in a ROTH IRA. This is NOT necessarily true, and it’s terrible to give one blanket answer when it comes to finances.
You should ask 3 questions regarding retirement investing:
1. Am I making enough money now to save for retirement (and would I be comfortable having this money more or less locked up), or will this money be better used in the next 3-10 years?
2. If I DO want to save for retirement, should I invest in a 401k, IRA, or both?
3. Should I invest in a Roth (401k or IRA) or a traditional (401k or IRA)?
Regarding 1: I’ll let you figure it out on your own, since that depends heavily on the cost of living in your area, the minimum amount your comfortable living on, and the amount your making. I live in San Francisco, and if I were making less than 40k a year I would save little to nothing towards retirement–but that’s just me.
Regarding 2: there exist important differences between 401k and IRA regarding withdrawal penalties and exceptions for withdrawing money. One of the biggest is that you can use IRA money to pay for the downpayment of a first house, with no early withdrawal penalty. More importantly, however, is a) whether your company will match 401k contributions, and b) what funds your company’s 401k plan offers and what management fees apply to those plans. Some companies FUCK YOU OVER by offering shitty investment options for the 401k… you’ll want to invest in a diversified set of index funds, probably covering US, international, and bonds–and possibly emerging markets and real estate if you know what asset allocation you want. (And in case it isn’t clear, having a company match program is the strongest reason to invest in a 401k over an IRA.)
Also recognize that you may be ineligible for traditional IRA tax benefits if your annual income exceeds certain amount (somewhere over $100k), depending on your single/married status.
Regarding 3: this really comes down to your current tax bracket verses expected tax bracket at the time of retirement. Research Roth vs traditional IRA; the same arguments apply to 401k’s. There’s also a subtle but noteworthy difference–that saving money via Roth allows you to invest MORE money in that tax-advantaged vehicle, since an investment of $17k/year after tax (Roth) is greater than an investment of $17k/year before tax (traditional). Lastly, earnings on a Roth IRA/401k are not taxed, but earnings on a traditional IRA/401k are.
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B. Saving for medium-term goals
Identify what your medium-term priorities are, like marriage, downpayment for house, wedding ring, etc. and weigh those priorities against short-term expenses like food, rent, beer money, nice vacations, etc. Once you understand those priorities and can weigh them against short-term needs/indulgences, allocate money accordingly. Ramit Sethi has great advice here about what to save for and how to balance short vs long term goals. Here’s a rough breakdown of what you might want to save for:
Marriage: average sticker price is $30k… decide how much of that you’ll want to save yourself.
Downpayment for house: varies widely depending on what kind of first house you’ll want. Also be aware that real estate is not as great an investment as traditional thinking suggests… do your research here before assuming that your house will appreciate in value more than that money would have in an index fund. Also optimal percentage of house price for downpayment depends on market conditions… with mortgage rates as low as they are today, you’d probably be better off paying a lower downpayment, even if you’re capable of paying more, and accept a fixed 3.75% mortgage rate over 30 years.
Wedding ring: I dunno, $3-10k?
Everything else: your call. How important to you is: charity, family contributions, vacations, honeymoon, etc…
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C. How to spend everything else
The nice thing about category C is that you don’t have to do much thinking. Once you’ve figured out your priorities (A and B), you can spend the rest of your money however you want. And you can calculate how much you should allow yourself to spend per week on average, based on your after-tax income, your retirement contributions, and your mid-term savings goals. And this is beautiful because it allows for guilt-free spending, which is the best kind!!