We often postpone investing until all conditions are in place.
“When to start investing” is a fundamental question, since compound interest acts exponentially over time:
The sooner we start, the more time there is to reach our long-term goals.
The right time to start investing is when a person has built up an emergency fund, has an ongoing savings strategy, and is in control of debt.
Generally speaking, one should have the equivalent of 3 to 6 months of expenses saved to respond to any unforeseen events.
The importance of the emergency fund
Having an emergency fund is essential before investing because if we do not have it, we will be tempted to take the money invested to cover unforeseen events, such as sudden damage to the house or car, a medical emergency, or even the loss of a job.
If we establish an emergency fund, we can draw on it to cover unforeseen events, without affecting our investments, and, above all, avoid impulsive decisions and the anguish of not knowing how to deal with sudden alterations in our financial life.
Continuous savings strategy
The savings capacity of an individual or a family is the difference between income and expenses. If your annual income is greater than your outgoings, you have a positive savings capacity. On the contrary, if your annual expenditure is greater than your income, your wealth will gradually decrease.
Therefore, to invest, it is important to consistently contribute a sum of money, however small it may be to the amount invested (we call it “the principal”).
Keeping debts under control
Controlling debt is one of the most important elements of maintaining healthy personal or family finances. There are many techniques, tactics, and ideas about debt management.
Our recommendation is simple: implement a plan to get rid of all your debts in a certain time frame.
Why is it important to have debts under control before start investing?
Debts have a certain interest rate, according to the type of credit. In the USA, for example, mortgage loans can be in the range between 3 and 12% approximately, consumer loans are around 10%, and credit card interest is between 28 and 32%.
If you have a significant credit card debt (28% annual cash) and you invest in a term deposit certificate that gives you 4 or 5% (hopefully) or even in a very good portfolio of ETFs or index funds with which you get 10 to 15% annual cash, it is much more profitable to pay the credit than to invest.
You also have to consider that you have total certainty that the bank will charge you between 28 and 32% for your credit card debt (or the value that corresponds to your country and your bank), but you will not have certainty that your ETF will produce 10 to 15%.
In other words: one of the best investments you can make is to reduce or eliminate debt.
The impact of time on investments
The best way to illustrate the impact of compound interest is through an example: Four friends start saving the same amount of money (250 per month), all until they reach the age of 63. They all manage to invest their money at an effective annual rate of 8%
The only difference is that each one started saving at a different age.
Daniela at Julia, Tom at 30, Judith at 40, and Carlos at 50. Look at the huge difference in the amount each of them manages to save at 63!
The right age to start investing
When my sister read this image with the results she said: “At 20 years old I could not save $250 a month! The important thing about this comparison is not the $250 a month, but the impact that time has on the growth of investments.
The more time you have to save, the more likely you are to achieve your goals.
Besides the purely mathematical aspect, there are other important considerations. Learning to invest has a lot of science and some art.
Each person should study to find the investment vehicles that best fit the profile and situation at any given time.
In other words, the more time, effort, and practice you put into learning to invest, the more likely you are to become a better investor.
Investing without being of age
In this order of ideas, it is not absurd to start investing even before the age of majority. When we live with our parents practically all the conditions we have indicated are fulfilled:
Our emergency fund does not need to be very large, because our monthly expenses are very small. We can start a savings plan with the income we receive from our parents plus the money we earn from part-time or seasonal jobs.
Since our indebtedness is probably zero or minimal, we can say that our debts are under control.
In short, it pays to invest early in life. If you start your student life with the habit of saving, investing, annual budgets, and goal setting, you will create excellent habits to manage your money well in advance.
On the other hand, you will have decades to structure your income sources and your investment instruments, so that when your income is more representative you can save more and know exactly how to compose your portfolio.
What to start investing in?
There are so many possible answers to this question that it requires another entire article to answer it. However, we will give some guidelines to keep in mind:
- It is essential to be clear about the difference between investing and speculating. The best definition of investing and speculation that we have found is that of the fathers of Value Investing, Benjamin Graham and D. Dodd:
“An investment operation is one which, upon thorough analysis promises safety of principal and an adequate return. Operations not meeting these requirements are speculative.”
- Graham and D. Dodd, Security Analysis.
- To start investing, it is convenient to use safe instruments that are easy to understand and use. Profitability is not as important at this stage as acquiring the habit and clarifying the concepts.
- Some options are Building Development Savings Accounts, CDTs, and even stable ETFs, such as BND.
- There are sources of income that do not need capital and can be implemented even by minors. In our article on Passive Income without Investment, you can see a complete list.
- Regardless of the investment instrument used or the return obtained, it is very important to learn at an early age to calculate profitability, interest, or even more complex concepts such as risk.
Conclusion on when to start investing
The right time to start investing is when you have built up an emergency fund, have an ongoing savings strategy, and are in control of your debt. Generally speaking, you should have the equivalent of 3 to 6 months of expenses saved to respond to any unforeseen events.
The more time you have to save, the more possibilities you will have to achieve your goals.
It is important to differentiate between investment and speculation: “An investment operation is one that, through analysis, promises security for the principal and a satisfactory return. Operations that do not meet these criteria are speculative”. In the income blog, we do not recommend speculation.
One of the best investments you can achieve is to reduce or eliminate debt.
When to start investing? As soon as possible and you should use and understand all the investment instruments.
Passive Income without Investment can be an early source of income.
Regardless of the investment instrument used or the return obtained, it is very important to learn at an early age to calculate profitability, interest, or even more complex concepts such as risk.