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How to Start Investing for Recent College Graduates

with 6 comments

Many people, like myself, have recently graduated from college. At this point, one might feel some confusion as to a lack of direction in life, reduced importance of your roles, or a number of other feelings and emotions surrounding the large transition from life at University to the “real world.”

One thing that myself (along with just about any financial adviser) would recommend, is investing now for later on. Two different time frames can be taken that benefit the majority of young investors: short- and long-term.

First, you can invest for a down payment on a house. It is a short term investment that will only last a few years, but it can significantly reduce monthly payments on a home. Roth IRAs can be dipped into for a first-time home buyer if the account has been opened for 5 years. These gains, as in retirement, would be tax free (contributions are post-tax dollars, as usual).

The second time frame is long-term–specifically for retirement. The key idea here is the added effect of the time value of money. Adding even small contributions early to an IRA, or other retirement account, can increase growth and reduce the need for contributions later on.

Investors right out of college should decide what works for them.

Another question they may have is what to invest in. Many 401ks have a limited number of choices that employees may choose, but also for those with IRAs, Roth IRAs, or taxable accounts, investors will want to choose the cheapest investments with the maximum return. Some of these investments include:

  • Exchange-Traded Funds (ETFs) that track major indexes, and
  • Mutual Funds with low fees and expenses that are passed on to investors.

There are others, but there are a number of recommendations from experts (Rich Karlgaard at Forbes, Warren Buffett, and the Financial Times) that say index-based investing is as good as using many of the best professional investors. Specifically, Buffett says,

I would just have it all in a very low-cost index fund from a reputable firm, maybe Vanguard. Unless I bought during a strong bull market, I would feel confident that I would outperform … and I could just go back and get on with my work.

Buffett is a pretty good person to be making an investment recommendation. If the professionals consistently under perform major averages, why not take advantage of cheap diversification, which can lead to real rewards?

The truth is, one can set their own strategy and gain effective diversification and portfolio allocation through the use of ETFs and low cost Mutual Funds. In a great article from Investors Chronicle, the author details a number of mistakes investors make, and how they can take a “lazy” route to proper diversification and portfolio allocation.

This greatly reduces the risk involved in strategies recommended by the Jim Cramers of the world. One example of this is his five-stock diversification. While a relatively low level of diversification has been empirically shown to be effective diversification, closely researching five or more stocks and staying on top of their developments (Cramer recommends at least one hour per week of research, per stock) can add quite a bit of risk with busy young professionals who may not be able to handle thinking about investments after a busy day at work. It may not even be effective diversification at that point, because the investor will not be able to monitor their specific stocks.

On the other hand, investing in products that automatically re-allocate themselves saves time and investment costs. As Buffett said, “I would feel confident that I would outperform … and I could just go back and get on with my work.”

It is important to scrounge up what ever you have now–even a couple hundred dollars of graduation money–and invest it in an account for later on (well, pay down any credit card debt first). Also, if the company you are going to work for has a 401k, enroll as soon as possible to take advantage of your employer’s contribution. Not saving now will only make it longer until you make your first $100,000, or million!

UPDATE on 5/14 @ 11:30a: CNN Money offers a simplified investment strategy in only seven products. They plug a few products, but in essence, these products are:

  • A blue-chip U.S.-stock fund
  • A blue-chip foreign-stock fund
  • A small-company fund
  • A value fund
  • A high-quality bond fund
  • An inflation-protected bond fund
  • A money-market fun

(hat tip: Consumerist)


Written by walonline

May 13, 2008 at 2:42 pm

Posted in Investing, Soap Box

Tagged with , ,

6 Responses

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  1. yoviateam

    May 13, 2008 at 3:07 pm

  2. After i graduated from college, my first investment was in investing seminars.

    Invest Tool

    May 13, 2008 at 10:56 pm

  3. […] topic is a nice addition to the post I made earlier this week on how to start investing for recent college graduates. Possibly related posts: (automatically generated)A Fun TwistCPRC […]

  4. Nice posts…actually i am a graduate, i am planning to invest in stocks so thanks for your tips.

  5. […] would appear to be a great strategy to use with one of the strategies I discussed in my post “How to Start Investing for Recent College Graduates.” Possibly related posts: […]

  6. […] Portfolio Example Jump to Comments We’ve talked in the past at Office Rumors of how you might use ETFs to create your own “lazy” portfolio. Index Universe has a […]

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