Expert: Paul Henneman - 5/12/2007

Question
I am extremely new to this whole world, and honestly, I have little interest in the subject, other than the desire to be set for life.  I'm in an enviable position in that I'm 22, have no debt or bills to speak of, and am saving about 50-75% of my income in a high-yield savings account with an APY of 5%.  I've just passed the $10,000 mark in that account and am now seriously considering investing in the market.  I don't care about becoming a millionaire, I'd just like to never have to worry about money.  Oh, and I am currently contributing 10% of my paycheck into my employers traditional 401k plan, and they are matching 5%.  Back to the market, I don't want to be one of those people who is consumed by their portfolio and has the CNBC stock ticker on 24/7.  Strong recommendations have been made against utilizing a brokerage firm, so is there a middle-ground?  I'm all for the out-of-sight, out-of-mind approach, to just let my money grow without having to be too involved.  I won't be able to maintain my current savings rate for long as I'm eventually going to start spending some of my money now on things like a car, possible mortgage (another frightening venture), etc.  I'm also extremely debt-phobic and I do worry that I might lose my hard-earned savings in a poor investment strategy.  Thoughts?

Answer
Caitlin,
   Thank you for your question!
   First, congratulations on your current circumstances. To be 22, with no signficant debt and interest in developing a financial plan, is a fantastic way to start your financial well being.
   The only secret to setting yourself up for a wonderful and financially secure second half of life is that returns take time to compound. This means that the longer period of time you invest, the value of your investments increases dramatically.
   The first thing that I suggest you do is visit the below link which is an investment calculator:

http://www.ici.org/cgi-bin/calcs/SAV14.cgi/investment_company_institute

Here you can enter how much you plan to invest each month, and see how much your investments will be worth at some point in the future. For rate of return, you could use 11% which is the average return for the stock market. Some years are good, and others bad, but it generally averages out to 11% a year.
   Perhaps you should consider two types of investments that do not require constant attention. The first are Certificate of Deposits (CD's). These offer fixed returns usually about 5%, which is much lower than you could achieve in the market. But they are perfectly safe, there is no risk. You must purchase CD's according to a time frame from a few months to a few years, so the investment is locked up for that time. When the CD matures, you can always reivest it into another CD.
  The second thing to look at would be an index mutual fund. These are funds that exactly copy an overall market index. The S&P500 is perhaps the most stable and appropriate stock market index, and the Vanguard fund with the ticker symbol VFINX mirrors the S&P500. The investor can simply purchase as many shares as they want of this fund, and the performance will essentially always match the index. Never better, never worse.  You could use 11% as the average annual return for such a fund. The key is to not stress or worry if there is a bad year or two where your accounts actually lose money. This happens, but only in the short term. You are so young, that investment will have plenty of above average years as well, so your net worth will grow over time.
   You can purchase most mutual funds, including index funds, yourself by setting up an account at just about any trading service online and avoid the financial advisor fees. I agree with those that have recommended to you that you should not use a brokerage firm or financial advisor. Some of the websites that I like best to set up your account and purchase the investments you are interested in directly with very low fees are www.Etrade.com, www.scottrade.com, www.foliofn.com
   For example, using that calculator I mentioned above, here are some numbers: Starting with $10,000, earning 11% annual return, Leave the total amount you need field blank,  choosing 30 years for the time frame, and adding an additional $300 a month to your investments: You would have one million dollars by the time you are 52.
   Change just the number of years to 40, and you would have 3.2 million at 62 years of age. This is a good example of how returns compound over time. Increase your contribution by $100 a month to $400, and you have added another million on.
   As you can see, small changes have a huge net effect. By starting early, you have made it easy on yourself! The cost of a car payment each month would result in millions later in life. Your income certainly will grow as you are so early in your career, so contributions could grow as well.
   I do suggest that you do some light reading to become familiar with the terms and  various types of investments that are available, to make a final educated decision. While the title is not flattering, "Investing for Dummies" is all you need to do this. It is available in most major book stores and on www.amazon.com . It will give you the basics you need.
  Most importantly: Do not wait, take full advantage of the unique position you are in with time and lack of debt on your side. Even with a minimal income you will do well, if you get started right away. Secondly, stay disciplined. Avoid debt at all costs, and do not trouble yourself over a few months or even a few years of poor performance. You are in it for the long haul. Finally, consider several investments to diversify your portfolio, perhaps some in low risk CD's and the majority in an index fund.

I hope that this helps! Please do not hesitate to follow up with me if I can be of any further help, and best of luck!

Sincerely,
Paul Henneman
President
ValuEngine Inc
www.ValuEngine.com