If you’re trying to lose weight, experts say the last thing you should do is weigh yourself three times a day. It’s the same with investing. You may be tempted to buy and sell with every market wiggle. But for the young investor, slow and steady wins the race.
The idea of “prospect theory” explains that “if the markets go up by 1%, you feel 1% better, but if they’re down by 1%, you feel 2% worse,” says Paul Shelestowsky, a Senior Wealth Advisor with Meridian Credit Union.
Compound interest guarantees that even a small amount of money, invested early, will turn into a big retirement nest egg.
“We know from years of research that diversification tends to pay,” says Stephen Foerster, Professor of Finance at the Ivey Business School and author of In Pursuit of the Perfect Portfolio.
For young investors, that means considering Exchange Traded Funds (ETFs), which are based on a wide range of assets, he adds.
Shelestowsky advises measuring performance by balancing returns against cost of living and risk.
“Long-term, a well-diversified portfolio of stocks has provided between 9% and 10%, and inflation has been in the 2.5% to 3% range,” he says, adding that the “core and explore” approach of protecting your core capital in low-risk investments, while cautiously devoting a portion to “exploring” high risk, can be great way to go.
What about fees?
“What matters is what kind of after-fee return one can obtain,” says Foerster.
“The key metric is the MER — Management Expense Ratio — that would be disclosed in all of these funds. For a passive or index fund, that MER should be very small: 0.1% or 0.2%, versus actively managed funds that are trying to outperform the index, say 0.5% to 0.8%.”
“I’ve got people with an MER of 2.6%, but they’re getting returns of 10%,” says Shelestowsky.
“If you’re paying more, you should be expecting a higher return.”
So where should a young investor go for advice?
“If you want good information about investing, you need to go to reputable sources,” he says, and opt for financial news and education sites over social media.
“One never knows what the motive of someone might be, whether it’s self-promotion or wanting to promote investments they’ve already made,” says Foerster.
“Historically, one of the best strategies has been to diversify, take on risk when you’re young and forget about it. It’s boring, and it can pay off in the long term.”
- CAGR (Compound Annual Growth Rate): A way of measuring the true performance of an investment, using a formula that evens out fluctuations to show the overall rate of gain or loss.
- Compound interest: Interest that is applied to both the original investment amount and any interest previously added to it. When interest compounds over many years, it enormously multiples the value of the initial investment.
- ETF (Exchange-Traded Fund): An investment fund that is bought and sold on the stock market. ETFs generally combine a variety of assets (stocks, bonds, currency), and their performance is designed to mirror a particular stock exchange, a market category (tech companies, green energy) or a commodity (gold, oil). Diversified and relatively low risk, they are a good choice for new investors.
- MER (Management Expense Ratio): A way of expressing the fees and other costs of an investment as a percentage of its value.
- Stocks vs bonds: A stock is a share of a company. It can be traded on a stock exchange and may rise or fall in value. A bond is a loan from the investor to a company or a government and pays a fixed return on the investment.