When young people are just starting to invest their money, it’s common to make a few mistakes along the way. I started investing in mutual funds when I was 19, mainly because they were easy to set-up with a pre-authorized purchase plan at my bank. Looking back, I think I made a lot of mistakes that are fairly common for young investors.
Every new investor is asked to fill out a risk tolerance profile to figure out what type of mutual funds they should be investing in. Young people have the longest time horizon and are typically more aggressive with their investments so they are steered towards expensive growth mutual funds.
That was how I started investing, and most Canadians have similar stories. If I could go back in time I would have invested in low cost mutual funds (ETFs weren’t available back then) instead of expensive growth funds. But when I talk to young people who are just starting to invest, I tell them to forget about finding the perfect investment products. As a young investor, it’s your savings rate that matters most. Be conservative with your money and preserve your capital before you make too many mistakes.
Starting to Invest
Many new investors are focused on the wrong things when it comes to investing their money. Rather than worrying about where to find the highest returns or how to lower their investment costs, young people should just focus on their savings rate while they figure out their short term goals.
Once enough money has been saved and all other financial obligations have been met, then it’s time to start looking for higher returns with index funds, ETFs or individual stocks. Your investment costs will also be lower if you have a larger portfolio to work with.
In my case, I saw all the fancy charts telling me to start saving for retirement now so I could put the power of compound interest to work. If I started saving $300 per month at 19, I would be a millionaire by the time I was 60. I was chasing higher returns instead of focusing on increasing my savings rate and building up my capital.
The Case For Being Conservative
The problem with risk tolerance profiles is that they naturally skew young people towards aggressive investments. I had a good savings rate, but I was in the wrong products and didn’t have an investment plan.
I was investing in expensive growth mutual funds in both my non-registered account and in my RRSP contribution. A few years later when I needed the money, I ended up selling everything and incurring huge penalties for early withdrawals.
If I had just put that money inside a high interest savings account, after three years I would have ended up with over $10,000. I would have had plenty of options to use that money for paying off debt, for a down payment on a house, or for starting to invest.
Now that I’m older and have developed a financial plan for the future, I’m much more aggressive with my investments. I look for higher investment returns and lower investment costs. But for young people just starting to invest, I think there’s a case for being conservative until a significant amount of money is saved and short term financial obligations are met.