The new year is a time when many people find themselves setting goals and resolutions for the months to come. It’s also the perfect time to create smart investing habits that will benefit you not only for the next year but possibly for the rest of your life.
To help you on your investing journey, we spoke with two investing experts to discuss smart investing habits you can implement in 2022. From setting specific goals to diversifying your portfolio to focusing on the long-term, these habits can help you reach your short and long-term financial goals this year.
Have A Plan
One of the most important aspects of investing is setting specific financial goals and then putting a plan into place to reach those goals. In fact, if you sign up for a robo-advisor or meet with a financial planner, the first thing you’ll be asked to do is answer questions about your goals.
One of the reasons why having specific investment goals is that it makes it possible to reverse-engineer them to ensure you reach them.
Take retirement, for example. When you’ve set a goal of what age you want to retire and how much you want available to spend each year in retirement, you can figure out the dollar amount you’ll need to retire comfortably with, as well as how much you’ll need to invest per month to reach that ultimate goal. The same concept can be used to figure out how much you should save monthly for any financial goal.
When it comes to investing, start with the end in mind. Knowing your short and long-term financial goals can help you create and stick to a financial plan and help you build a diversified portfolio that’s appropriate for your specific goals.
According to Sara Stolberg Berkowicz, a CFP and Assistant Professor at the College for Financial Planning, mental accounting is another reason why setting specific goals is so important.
Mental accounting, a concept made famous by economist Richard Thaler, is the idea that people tend to mentally separate their money into different buckets. We think of the money in our checking account for spending, the money in our savings account for saving, and so on.
“When we buy coffee in the morning, we don’t take money out of our IRA to do that — we use our debit or credit card,” Berkowicz. “That’s how we think about money, and so we can use mental accounting to help us save for financial goals.”
We can take advantage of this idea of mental accounting to reach our financial goals. When you’re saving for a particular goal and you leave that money sitting in your checking account, it’s easy to spend on something else. But what if that money is in an entirely different account? You can still easily access the money, meaning there’s nothing that inherently prevents you from spending it. But simply by putting it into an account designated for that financial goal, you’ve used mental accounting to make it less likely that you’ll spend it.
If you’re struggling to transfer money to your savings or investment accounts in the first place, consider automating your finances. For example, you can set up an automatic transfer from your checking account to your savings account on the first of each month to help you build your emergency fund — or from your checking account to an individual retirement account (IRA) to help you save for retirement.
By automating your finances, you increase the chances you’ll follow through on your goals. You aren’t relying on your willpower or motivation to save each month. Instead, technology has taken care of it for you. And after a while, you probably won’t miss that extra money in your checking account anymore.
Saving A Higher Percentage of Income
There’s no hard and fast rule for what percentage of your income you should invest.
Remember that the percentage you should save depends on your annual income, your age today, the age you plan to retire at, and your desired annual income during retirement. For example, someone pursuing FIRE — or financial independence, retire early — will need to save a much larger percentage of their income now than someone who plans to retire at 65.
When asked what percentage of income he recommends that investors save every month, Ryan Klippel, a financial planner at Optas Capital, said at least 20% of your take home income. This 20% can include money going into your retirement accounts, as well as money going into cash reserves and taxable brokerage accounts to save for short-term and long-term goals. When deciding how much of your savings should go into retirement accounts, Klippel reminds investors to take advantage of any perks their employer offers.
“For your retirement goals, make sure you are at least taking full advantage of your employer’s matching. If offered, this is essentially ‘free’ money,” Klippel said.
Not sure how to achieve this 20% savings rate? The popular 50/30/20 budgeting method breaks down what percentage of your income should be going towards wants, needs, and financial goals. It can help you identify areas in your budget where you’re overspending so you can allocate more money toward savings.
Diversify Your Investments
If you’re at all familiar with investing, then you’ve probably heard the advice to diversify your investments. But what does that actually mean?
Diversification is when you’ve spread your money across many different investments. For example, rather than only investing in stocks, you also have money in bonds, cash, and possibly alternative assets. And instead of only investing in stock from a single company or sector, you’ve invested in many companies across a variety of sectors.
“The goal is to prevent any single holding from making or breaking your financial success as concentrated positions can exacerbate volatility,” Klippel said.
When diversifying your portfolio, Klippel recommends including both domestic and international holdings. Like many financial experts, Klippel points to exchange-traded funds and mutual funds as a way to start diversifying your investments from the beginning.
“Nowadays, it is fairly common to be able to purchase fractional ETF shares,” Klippel said. “So even if you do not have a lot of money to invest, you can gain exposure to the global stock and bond markets.
Limit Your Risk
Investing is inherently risky. In the case of the stock market, you risk losing money when a particular company, a particular sector, or the entire market goes down. Even so-called safe investments like cash and government bonds carry some risk. In that case, you face the risk that your investments won’t keep pace with inflation, meaning your money is losing value.
Luckily, there are plenty of ways that you as an investor can reduce your portfolio risk. One of the most important tactics is, as we discussed previously, diversifying your portfolio. But it’s also important to be cautious about what you add to your portfolio in the first place.
During the past couple of years, cryptocurrency and day-trading strategies have been in the public eye, leading many investors to wonder if they should add them to their portfolios. Unfortunately, these types of investments can be highly speculative and more closely resemble gambling than long-term investing.
That’s not to say you can’t include them in your portfolio, according to financial experts.
“If they have the risk capacity and the risk tolerance, there’s no reason they can’t consider those kinds of investments to be similar to any other gambling they might do with their money,” Berkowicz said. “Some people go to the track or bet on sports. There are many types of gambling, including investing in cryptocurrency and other high-risk investments.”
If you choose to invest in some of these higher-risk investments, be sure your other financial ducks are in a row. Pay off high-interest debt, ensure you have fully-funded emergency savings, and contribute enough to a diversified retirement account to reach your retirement goals. Finally, only take on these risks with money you can afford to lose. Experts recommend that no more than 5% of your investment portfolio is in high-risk assets like crypto.
“If [investors] do that, make sure it isn’t money they need for living expenses or that would affect the time horizon for reaching their financial goals,” Berkowicz said.
As a new investor — or even a seasoned investor — it can be easy to check your accounts too often and panic when they seem to be heading in the wrong direction. For that reason, financial experts recommend avoiding checking your balances every day. According to Klippel, once per month or per quarter is plenty for your 401(k) plan.
“It is also important to realize that if you are regularly contributing to your investment accounts, such as your 401(k) with every paycheck, you can actually benefit from market volatility as you buy more shares when the share price is low versus when it is high,” Klippel said. But don’t only invest when the market is low. Keep investing because time in the market is more important than anything.
It’s easy to feel overwhelmed by the volatility in the stock market, and it leads many inventors to make emotional decisions. But remember that the stock market has bounced back from every correction and downturn so far and gone on to reach new record highs. There’s no reason to think that won’t be the case in the future.
“Remember the old adage: it’s the amount of time you are in the market—not timing the market—that is the important ingredient for achieving your financial goals,” Klippel said.