I’ve written before about the importance of automatic investing and index funds, but I thought it would be good to fully pull back the covers on my investing strategy. There’s an old (and likely made up) Watergate line about “follow the money” which I think is appropriate when talking about investing plans.
So without further ado, I present my personal investing plan:
A beautiful flowchart of future riches, isn’t it?
Every investment on this chart is completely automated, so twice a month money moves around without me lifting a finger. This benefit is two-fold: I don’t have to regularly remember to buy investments, and (more importantly) I’m much less likely to get caught up in short-term market trends and any emotions surrounding them.
This is a somewhat complicated diagram, so let’s take it section by section:
Retirement Accounts
To me, retirement is the main investment most people should focus on. I split my retirement contribution between a pre-tax 401(k) account through Fidelity and a Vanguard Roth IRA account.
Contributing to a 401(k) is my top investment priority, and I encourage you to put your money here first for a few reasons:
- You don’t pay any tax at the time you contribute money, meaning you will have a bigger pile of money to grow over the years
- Your earnings are not taxed until withdrawal, so all income you get from dividends and selling can grow tax-free until you withdraw the cash
- Many employers will match part of your 401(k) contribution, so you are literally giving up free money if you don’t contribute
After a 401(k), a Roth IRA is the second place I urge you put your money for two reasons:
- Like a 401(k), your money will grow tax-free
- Roth IRA accounts are taxed when you contribute money, but you can withdraw your cash tax-free. This is a great hedge against being in a higher income tax bracket later in life or capital gains tax going up in the years to come.
Both accounts are invested in a mix of low-cost index funds and because I have many years until retirement the investments are on the riskier side of the spectrum.
Brokerage Accounts
Most excess money I have after contributing to retirement goes into medium-term brokerage accounts. I split my brokerage funds between three accounts: a Betterment account, a Vanguard account, and a LendingClub account.
Betterment is an online financial product that automatically invests your money in a blend of low-cost stock and bond ETF’s.
This is a great way to get exposure to a hugely diversified portfolio, and if you’re a finance noob you don’t have to worry about what funds to buy. All you do is select if you want to invest more heavily in stocks or bonds, and Betterment will handle your portfolio creation.
For more experienced investors not interested in this benefit, you’re also getting low-cost funds with great perks like automatic rebalancing and tax loss harvesting.
Vanguard is a more traditional brokerage account where you can select specific funds to invest in.
Because I have many years ahead of me before I expect to withdraw this money, I take a relatively risky approach and invest in a small-cap growth fund balanced with a total US stock market fund and a total international stock market fund. All of these are low-cost funds (expense ratios of 0.10% or lower) that are passively managed.
LendingClub is a peer-to peer lending service that allows individuals to loan money directly to borrowers.
As elsewhere, I take a relatively risky approach and fund notes from lower-quality borrowers that offer a higher return. LendingClub grades its notes on a scale from A (lowest risk, lowest return) to G (highest risk, highest return), and I focus on grade E, F, and G notes. I only invest $25 per note (the minimum LendingClub allows), which means I’m diversified across hundreds of notes.
I’ve used LendingClub for 6 years and have averaged 10% returns throughout that time, which is very solid. However, most of those years were during a huge bull market, so it will be interesting to see how the portfolio performs in less optimistic years.
Savings Accounts
In addition to storing money away for the future, it’s important to also have some short-term cash on hand. Layoffs happen. Engagement rings happen. Expensive medical bills, sudden legal fees, and spur-of-the-moment expenses happen. How much cash you want in savings versus other investments is up to you, but you should have something available to bail you out immediately.
I used to use SmartyPig (1.00% APY) for my savings account, but then I discovered Vanguard’s Target Retirement Income Fund (which has averaged 5.50% for the past 10 years). While this is not a true savings account because the value can decrease, I’m ok with that risk because the returns are much higher than you can get with a risk-free investment. The fund is focused on minimizing losses, but if you can’t stomach the idea of your savings account going down with the market, consider putting your rainy day money elsewhere.
Conclusion
Everyone’s investment needs are different, so this setup is almost certainly not right for you. However, hopefully you can take bits of this strategy and apply it to your own investment strategy.
If nothing else, I’d urge you to consider:
- Automatic investing. The single most important step in investing is just putting money aside, not where it goes. If you automatically invest money anywhere on a regular basis that’s half the battle won.
- Diversification. I intentionally don’t pick individual stocks or bonds, each fund above is a collection of hundreds or thousands of different equities. Diversity is arguably the most fundamental piece of an investing strategy, so wherever you put your money, diversify it.
- Passively managed funds. In addition to not picking individual stocks or bonds, I also don’t pay mutual fund managers to oversee my investments. I only invest in passively managed funds because they’re significantly cheaper than actively managed funds and they have been shown to outperform actively managed funds in the long run.
Best of luck to you and your money tree!
