Selecting an Ideal Beginner Investment
Today you are going to read my views on first investments for beginners. That topic seems strange for a baby boomer who is probably considering his gazillionth different investment option. On the other hand, the high school and college graduation seasons have just concluded, causing me to reminisce about my first ventures into the investment world as a younger person.
Times Have Changed for Beginner Investors
This “investment” plan was so simple that we already know that for most of us, things won’t turn out that way. A few economic hard truths intervened. These include the demise of the corporate pension, costly divorces, no savings, McMansion lust, and excesses in debt-driven spending. Sound familiar?
My First Investment
I clearly remember my first real investment. It is memorable because it had some but not all of the characteristics of an ideal investment for the beginner. I will explain.
My first job out of college was as a design engineer for Motorola. Shortly after I started, Motorola offered a plan that allowed employees to acquire shares of Motorola stock at a substantial discount. I signed up to participate by regular payroll deduction.
I owned that Motorola stock for four years of employment plus three years of law school. As a graduation present to ourselves, Mrs. ToughMoneyLove and I sold the stock (now appreciated in value) and used the proceeds to pay for an extended trip to England, Scotland, and Ireland. We took that trip before I started my first lawyer job.
That little story sets the stage for conveying my views of the …
Characteristics of an Ideal Beginner Investment
1. Low Cost. The costs to acquire and maintain an investment can be a significant barrier to entry for a young, novice investor. Moreover, because the size of that first investment is usually small, the impact of transaction costs is magnified. It did not cost me anything to buy or hold that Motorola stock except for the actual purchase price.
2. Automatic. The easiest way to make investing a habit is to make it automatic. This can be through payroll deduction into an employee-sponsored plan (like my Motorola stock) or by automatic transfer from a bank account to an investment account.
3. Difficult to Liquidate. By this I do not mean an illiquid investment. Rather, there should be administrative obstacles and/or tax disincentives to selling the investment for use other than for its original purpose. This makes it easier to resist spending temptations. IRAs are ideal for this. My Motorola stock was easy to sell. Should I have held it and not used it for a vacation? Yes and no. Mrs. ToughMoneyLove worked extremely hard to help support us through law school. Her lifelong dream to that point was to visit Ireland, the land of our ancestors. We had relatives on temporary assignment in England who would provide a place to stay. We had other relatives who offered us travel to the UK as a gift but only while our other relatives were there. When else would we have the time and means to take that extended trip? I think it was a good choice for us.
4. Transparent Growth. An excellent way to create investing enthusiasm in the novice investor is to make it easy for that investor to watch the investment appreciate in value. Any security and investment account that is easy to monitor online should qualify.
5. Low Risk. This one is going to be controversial. The standard line is that young folks are in it for the long haul so taking significant short term risk is appropriate and necessary.
I agree. Except for that first investment.
You want the beginner investor to be encouraged, not hit in the face with a loser right out of the chute. Let them experience success – even a little bit – before diving into the riskier asset allocations. Imagine the psychological damage that has been done to young investors who moved into the market in 2007.
In this market and economy, I’d suggest TIPS or I-Bonds as that first investment for the beginner. Why? Because inflation protection should be part of any long term investment strategy. So start off with that asset, watch how it securely grows, gain confidence, then move on to equities. I-Bonds are particularly appropriate because there is no cost to buy or own them, they can be bought and tracked online, they have built-in disincentives to early liquidation, and they are tax-deferred, making them ideal for owning outside a retirement plan.
That’s my story on the ideal first investment. I’m sticking to it unless one of you convinces me otherwise. Care to try?
Photo Credit: Matt Stratton