Academics are probably familiar with the phrase “publish or perish.” In the finance world, it’s more like “invest or bust.” Investing is a critical component of your wealth-building strategy. You likely won’t be able to reach all of your long-term goals without a sound investment plan operating in the background.
A financial plan without investments is like a jazz band without a saxophonist—it just doesn’t work. But not all investments are created equal and building a plan that works for you often comes with a steep learning curve.
We think it’s time to take your investing game up a notch. Here are the top 5 investing mistakes we see Gen X make, and how to avoid them.
1. Timing the Market- ‘Trading’
A top mistake investors make is thinking they can and should time the market. Investing isn’t about knee-jerk reactions or crystal ball predictions, instead, it’s about curating a healthy and pragmatic long-term strategy to help you reach your goals. To complicate matters, to time the market correctly, you need to be right not once, but twice. When do I get out of the market and when should I get back in?
Market timing doesn’t take your risk preferences, time horizon, allocations, or goals into account. Remember, investing is a long-term strategy, one that should be done with care and consideration.
Markets engage in unpredictable patterns (just take a look at 2020) that can’t inherently be forecasted. While active managers attempt to track market cycles and anticipate market moves, it doesn’t always yield higher returns. In fact, active large-cap fund managers have trailed the S&P 500 for over a decade. In 2020, over 71% of active large-cap managers underperformed the index!
Why Is Market Timing So Tempting?
A temptation to time the market often happens during a big swing or downturn. While several theories swirl around news headlines, your best bet is to build and stick with a diversified investment plan tailored to your risk, time horizon, and goals. Creating a plan doesn’t mean that it stands still. It’s important to rebalance your portfolio regularly to maintain the right allocations for your needs and adapt to any changes like your risk preferences or long-term goals.
Realize that, on average, there will be an annual decline of over 15%. Instead of being surprised by these annual pullbacks, an accumulator should welcome this volatility which offers the chance to average in at lower prices.
Market timing doesn’t make sense for long-term investors. Think about it: your retirement savings will need to cover a couple of decades, 30+ years for joint life expectancy. Once retirement hits, clients rarely look back and worry about the day they invested, just the amount. Nobody near retirement ever says, “I wish I hadn’t wasted all of that effort investing!” It’s always, “I wish I had started earlier!”
2. (Completely) Prioritizing Education Costs Over Retirement
Far too often, parents over-sacrifice their retirement nest egg by footing the entire bill for college. It’s easy to let your spending get a bit out of hand when you’re kids are in school. From food to housing to transportation to social activities, parents can be on the hook for much more than tuition.
Before your cash flow gets away from you, take a step back and set realistic goals and boundaries with your kids when it comes to education costs. Maybe you’re happy to write the check to the university but their impromptu pizza nights or spring break tips are on them. Figure out how you can balance these goals without taking a loan from your retirement accounts.
Now is a critical moment to take care of your future self and put your retirement savings first.
Consider the Following Tips
- Take advantage of catch-up contributions
- You can still contribute to your 2020 traditional and Roth IRA until April 15, 2021 ($6,000 with $1,000 in catch-ups for each).
- Depending on your workplace plan, you might be able to put in your catch-up contributions ($6,500 for 401k) to your 2020 account until tax day.
- The same 2021 deadline applies to your 2020 HSA, so keep investing in your health. Limits for your 2020 account are $3,550 single coverage and $7,100 for family coverage (2021 limits increased by $50 and $100 respectively) with $1,000 in catch-ups for those over 55.
- Increase contributions to your brokerage account
- Did you get a raise at the end of the year? If so, have you used it to increase your savings? Take time to evaluate your current savings and find intentional ways to ramp them up.
Education is one of the greatest gifts that you can give your child, but if you end up living at their house because you can’t get a ‘retirement loan’ at 70, it defeats the purpose!
3. Viewing Your Home as an Investment
Sure, your home equity can come in handy when you want to freshen up your kitchen, finally remodel your bathroom, or need an emergency cash fix (HELOC), but in terms of an ROI, homeownership isn’t all it’s cracked up to be.
Between mortgage payments, interest rates, property taxes, maintenance, and insurance, you’re putting a significant amount of assets into the house that you likely won’t see on the sale. While your home is an important asset, it’s often a mistake to view it as an active investment.
This is why most families should skip out on buying the vacation house and stick with one primary residence, for example. With a vacation home, all your money is “waiting for you” in a different place, and if your money remains idle, that’s not good for anyone.
If your money isn’t working for you, it’s working against you. All of the time, energy, money, and upkeep that goes into a vacation home, suddenly doesn’t feel so much like a vacation as it does an obligation.
4. Not Understanding How Your Investments Are Taxed
You could have a stellar portfolio with out-of-this-world returns, but if you’re not careful a hefty chunk of change will fly right into Uncle Sam’s pocket. Taxes play a prominent role in your investments, making it critical to understand the tax-efficiency of your investments.
Your retirement savings, for example, can be housed in three tax groupings:
The best way to insulate your nest egg against future tax changes is to invest in each of these tax-buckets.
Pre-tax money (401(k), traditional IRA, etc.) is taxed as ordinary income upon distribution, making it best for a low tax-rate environment. Post-tax savings like in a Roth 401(k) or Roth IRA, protect against future tax hikes since qualified distributions are tax-free. Taxable brokerage accounts come with multiple benefits like capital gains tax rates, tax-loss harvesting, and step-up tax basis upon death.
5. Letting Your Emotions Get the Best of You
This can occur during market highs and lows, both of which investors experienced within the past year. Bear markets tend to get investors nervous, especially if it lasts longer than anticipated. That fear can lead to quick decisions that can have a dramatic impact on your future investments.
But seasoned accumulators tend to count market volatility as a blessing once they learn how to take advantage of bear market ‘sales’ providing affordable access to some of the greatest companies in the world.
Emotions can also get in the way during a bull market. Riding the euphoria of a big market win can cause investors to assume much more risk than appropriate for their situation. While it’s always vital to take stock of your risk tolerance and capacity (especially as you encounter life transitions), it’s also crucial to make decisions based on what’s best for you not necessarily what’s plastered on news headlines.
Investments never stand still and there are several ways to take advantage of different opportunities in any market condition. A well-balanced portfolio allows investors to take the emotion out of investing by rebalancing allocations when necessary.
The bottom line? Market swings aren’t a surprise, they are the norm. Your investment plan is a significant part of your financial and personal life as it will help fuel your dreams. We have decades of experience building diversified tax-efficient portfolios for families in the New Orleans area. Don’t ‘trade’ your family’s life savings! If you’re ready to become the investor you want to be, set up a time to talk with our team.