Welcome to our Ask Wealthfront series, where we tackle your questions about personal finance and investing. Want to see your question answered here? Reach out to us on social media and we’ll try to address it in a future column. 

What steps can someone take if they don’t know where to start with investing?

–Jessie P. 

Getting started with investing can feel daunting if you’ve only ever kept your money in a high-yield account like the Wealthfront Cash Account. Earning a competitive interest rate (like Wealthfront’s high 5.00% APY along with up to $8 million in FDIC insurance through our partner banks) is great, but investing makes sense if you’re hoping to grow your savings for the long term. That’s because your returns are more likely to keep up with inflation. Here are some helpful steps to consider as you get ready to invest.

Step 1: Make sure you’re really ready to invest

Make no mistake: at Wealthfront, we are big proponents of investing to build long-term wealth. But before you jump in, we believe you should meet a few minimum requirements.

Specifically, you should have an adequate emergency fund (generally this is about 3-6 months of living expenses) and have enough cash to cover any short-term expenses before you start investing. The reason for this is that markets can be volatile in the short term. If you invest your savings before you have a good emergency fund set up, you run the risk of needing those emergency savings but finding the value of your investments has declined. In that situation, you might have to sell your investments to cover your emergency and lock in your losses, which nobody wants.

You should also consider paying down any high-interest debt before you start investing. As a rule of thumb, you should tackle any debt with an interest rate that’s higher than the rate of return you’re likely to get on your investment. Of course, the future is uncertain and it’s impossible to know exactly how much your investments will earn, but you can use tools like Wealthfront’s historical returns page to make an informed decision. 

Step 2: Figure out your high-level approach

There are a lot of ways to invest, and not all of them involve scouring the newspaper for insights and picking individual stocks. If you’re just getting started, arguably the smartest and easiest way to begin is by using a robo-advisor like Wealthfront to set up an automated, globally diversified portfolio of low-cost index funds like Wealthfront’s Classic or Socially Responsible portfolios. These portfolios are a good choice if you are saving for something at least 3-5 years in the future. Not only will you skip the hassle of choosing and managing your own investments, but you’ll also benefit from our time-tested, research-backed approach to investing

There are some things investors can’t control, like the daily ups and downs of the market. But we encourage you to focus on what you can control. 

  1. Lowering your taxes
  2. Reducing your costs
  3. Managing your market risk through diversification

Wealthfront’s Automated Investing Accounts are built to handle all of this for you: Our Tax-Loss Harvesting service monitors daily market volatility to find opportunities to lower your tax bill  automatically, we charge a low, 0.25% annual advisory fee for our Automated Investing Accounts, and we offer you an expert-built, diversified portfolio that is fine-tuned to your particular risk tolerance.

If you’re saving for something 1-3 years in the future, you might consider investing in a portfolio with less exposure to market risk like Wealthfront’s Automated Bond Portfolio. Instead of holding a broad mix of different asset classes (or types of investments), these portfolios hold only bond ETFs and are designed to offer a higher yield than a savings account with less risk than a diversified portfolio of equities like Wealthfront’s Automated Investing Accounts (although it’s worth noting that their expected return is also lower). They’re optimized based on your individual tax situation and also offer Tax-Loss Harvesting at no additional cost. 

Step 3: Don’t overthink the timing

Once you’ve decided you’re ready to invest and you’ve picked your approach, it’s important not to overthink the timing. There’s a famous saying that time in the market beats timing the market, and we think those are wise words.

You might be tempted to wait for the “right” time to invest, but this approach is likely to hurt you. We analyzed what might happen if you tried to “buy the dip” in the S&P 500 over the last 30 years and found it was likely to be an expensive mistake. 

Instead, remind yourself that time is on your side. The sooner you invest, the longer any potential returns will have to compound (compounding can be so powerful that Albert Einstein himself called it the 8th wonder of the world). And if you just can’t stomach the thought of investing all of your cash on one day, you can use a strategy called “dollar-cost averaging” to help out. With dollar-cost averaging, you invest a set amount of money on a set schedule—so, for example, you might invest $1,000 every week for 5 weeks instead of $5,000 all at once. 

Step 4: Set it… and try to forget it

Once you’ve started investing, the final step is to keep it up. This means leaving your money in the market (and ideally adding more), even through periods of volatility, so it can have the opportunity and time to grow and compound. This sounds easy, but it can be emotionally difficult when the market is down and the headlines are dire. Stay the course. In reality, investing consistently through periods of volatility is likely to work out in your favor. The less you check in on the day-to-day movements in the value of your portfolio, the easier it can be to tune out the noise and focus on the long term.

We hope this information helps you feel more confident about getting started with investing! 

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The information contained in this communication is provided for general informational purposes only, and should not be construed as investment or tax advice. Nothing in this communication should be construed as tax advice, a solicitation or offer, or recommendation, to buy or sell any security. Any links provided to other server sites are offered as a matter of convenience and are not intended to imply that Wealthfront Advisers, Wealthfront Brokerage or any affiliate endorses, sponsors, promotes and/or is affiliated with the owners of or participants in those sites, or endorses any information contained on those sites, unless expressly stated otherwise.

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About the author(s)

Joanna is a Product Specialist Manager at Wealthfront. She is a licensed financial advisor in the U.S. and Australia, holding Series 7 and Series 66 licenses from FINRA. Before joining Wealthfront, Joanna worked at Dimensional Fund Advisors.