In the beginning, investing is daunting. There are so many ways to invest that have pros and cons. But what are the best investments for beginners?
What Makes Good Investments for Beginners?
When determining whether an investment is suitable for a beginner, there are a few essential points to keep in mind. The investment must be accessible with little funds, not too complicated, have a proven track record, be decently liquid, and have insurance.
- Accessible with little money: Beginners likely don’t have large pools of money to pull from. An excellent beginner investment must not have a high minimum investment.
- Not too complicated: Consistency and longevity are the most crucial factors in an investor’s success. If an investor starts with a complex investment that turns out poorly, the investor is less likely to continue investing.
- Proven track record: A beginner investor is likely looking for returns that are as close to guaranteed as possible. An investment with a long, positive track record is the closest an investor can get to guaranteed.
- Decently liquid: Though beginner investors should invest with a long time horizon, things happen. Since a beginner likely doesn’t have a massive amount of savings yet, their investment needs to be liquid enough to access quickly in an emergency.
- Insurance: A beginner investor likely isn’t looking for a risky investment where they could lose everything if someone doesn’t pay them back. A good starter investment should be insured against something like theft.
If all these boxes are ticked, it’s probably an excellent investment for beginners.
10 Best Investments for Beginners
1. 401K or Other Employee-Sponsored Retirement Account
Retirement accounts are a powerful option for investing in the stock market. Other than the power of the market itself, retirement accounts like a 401K have another advantage; tax advantages.
Non-retirement investment accounts are invested using post-tax funds, and any gains are taxed. However, in a 401K for example, you can invest with pre-tax funds, grow tax-free, and defer taxes until you withdraw after 65. This gives you a significant advantage when it comes to building wealth.
The advantage of an employer-sponsored retirement account is that there is usually a match of some sort. A common figure is for an employer to match a contribution of up to 6% into your 401K. Meaning if you invest 6% of your paycheck into your 401K, your employer doubles that amount by matching it.
These matches are the closest things to free money in investing since it is an immediate 100% return. This is head and shoulders above waiting the standard seven years to double your money in the market.
Though you should contribute enough to meet your employer’s match, you can invest as little as you want into a 401K. Throwing as little as 1% of each paycheck into your account is an option.
There are two downsides two these types of investments. First, your investment options are limited. For example, 401Ks usually only allow you to invest in a select number of market funds, and individual stocks aren’t even an option. The expected return of your account will differ based on the funds available to you.
Second, they are not liquid. A 401K can only be easily withdrawn once you retire. Until then, the account is just growing and being contributed to.
Regardless of these downsides, a match’s immediate 100% return and the ability to grow tax-free forever can’t be beaten.
Expected annual return: 6-10%, depending on fund options
2. Roth IRA or Other Independent Retirement Account
If a 401K isn’t an option, you’ve maxed out your match, or you want to diversify your accounts, opening an independent retirement account is the next best option. Most of the advantages of an employee-sponsored account still apply here, such as tax-free growth and tax advantages, but it lacks the employee match.
The most common form of an independent retirement account is a Roth IRA. A Roth IRA is contributed to using post-tax funds. Then, it grows tax-free forever, and you don’t have to worry about paying taxes upon withdrawal.
These types of retirement accounts can be opened with no upfront investment. You can open a Roth IRA and decide how much you want to contribute. There is a contribution limit of $6,500 per year. This was recently raised from $6,000 in 2022.
Flexibility is the primary advantage of an independent retirement account over something like a 401K. You can invest in any stock, fund, ETF, mutual fund, etc., you desire with a Roth IRA. You have the same control over it as if it was a standard investment account. As a beginner, it is safer to stick with funds, but a Roth IRA gives you the flexibility to generate higher gains if you can pick individual stocks well. To learn more about the stock market, check out this post.
A Roth IRA is also significantly more liquid than an employer-sponsored account. With a Roth IRA, you can withdraw your contributions anytime. This does not include any gains on the account, only your contributions. This way, a Roth IRA can act as an emergency fund that is simultaneously growing tax-free.
As a beginner, investing in index funds is the best option. Index funds track the market and have very few differences. The most popular and accurate index for tracking the market is the S&P 500. To learn more about investing in the S&P 500, check out my post.
Expected annual return: 10%
3. High-Yield Savings Account
Whenever you’re investing, you should always have an emergency fund. You never know what could happen when you need funds quickly to cover an emergency. The above-mentioned Roth IRA is an excellent option for this. However, there is a maximum contribution limit for Roth IRAs.
Once you have gotten your 401K match and maxed your Roth IRA, a high-yield savings account is the next best option.
Most savings accounts, like one offered at a major bank, offer extremely low interest rates. At the moment, you will be earning far below 1% returns on a bank savings account. Alternatively, a high-yield savings account is offered through a third party.
A high-yield savings account is just as it sounds: it is a savings account that offers a higher yield than a traditional account. Generally, this is between 3% and 5% annually. Though these returns aren’t as high as an investment account, these returns are guaranteed. That is a massive peace-of-mind advantage over an investment account that could have a down year.
High-yield savings accounts are also quite liquid and stable. You don’t have to hold strong through fluctuations as you have in the market. There are no investments you need to sell, just a waiting period of several business days, and the money is withdrawn. There is also no contribution limit as you do with a Roth IRA.
Be wary of minimum initial deposits with high-yield savings accounts. This isn’t true for every account, but many require you to deposit a certain amount upfront to open it. One company I have experience with is SoFi. I have had a good experience so far, with the only limitation being that you have to set up direct deposit into the account to get the advertised 4% APR on the account. But it was done with no funds upfront.
If you decide to sign up for SoFi, sign up using my link and get a free $25 when you deposit $10 in a new account.
Guaranteed annual return: 3-4% depending on the account
What to Have in an Emergency Fund
As mentioned, a high-yield savings account is an excellent method of building an emergency fund. But how much do I need to have in one?
The general rule of thumb is 3-6 months of expenses. This will cover you during a quick lapse in employment and give you a cushion for peace of mind. However, this is a minimum. A better long-term goal would be one year of income.
If you currently don’t have an emergency fund, prioritize building up to 3 months of expenses over any of the investments lower on this list. Then, you can split your contributions more between savings and investing.
Since there is no limit to a high-yield savings account, it could be as large as you want. However, some investing methods will generate higher returns than these accounts. So at some point, you should start contributing to these to build more wealth.
4. Independent Taxable Investment Account
Once you have exhausted your retirement options and built up an emergency fund, it’s time to start investing on your own. This involves opening a brokerage account, depositing post-tax income, and trading stocks.
Taxable investment accounts are highly flexible. You can invest as much or little as you want down to $1 and invest in any stocks you choose, just like a Roth IRA. Since you are still investing through a brokerage, all your funds are FDIC insured.
Though taxable accounts provide greater flexibility, it’s not always the best option to use all that flexibility. Many new investors get excited and try to pick risky stocks to generate huge returns. However, this usually leads to significant losses that hurt financially and stop many investors from wanting to try again.
For beginners, sticking to an index fund or a stable blue-chip stock is the best option. This is much more likely to generate the market’s expected 10% return, backed up by over 100 years of historical performance. It may sound boring, but compounding is the real wealth-builder in the market. But compounding takes time, so you need to be in it for the long haul.
The primary downside to taxable accounts is just that they are taxable. You are investing with post-tax funds and then taxed on any gains you generate. This doesn’t mean it’s not worth it because returns are still returns even when taxed, but it’s not the most advantageous.
To minimize the taxes you pay, ensure you hold on to your investments for longer than one year so taxes are reduced. In addition, if an investment tanks and you don’t see it recovering, sell it off. You can use these losses to offset taxes from any gains.
Expected annual return: 10% if tracking market
5. Exchange-Traded Funds (ETFs)
ETFs are a great option if you are looking for easy diversification in the stock market, where you don’t have to pick stocks. ETFs pool many investors’ funds to purchase stocks. Each ETF has its personalized portfolio that is managed to adapt to changing stock outlooks. For example, index funds are meant to track the overall market. Index funds are ETFs, just managed intending to follow the market.
ETFs can be bought on the stock market just like an individual stock. The primary downside compared to an individual stock is that ETFs charge higher fees. This is because it takes management to oversee an ETF and decide what stocks are included. These fees can be anywhere from .3%-2%. Even this tiny amount can eat into an investor’s long-term returns.
Especially with index funds, you can feel safe with an ETF. Not only are your funds FDIC insured through your broker, but an index fund will only plummet if the U.S. plummets. If you believe in the long-term success of the U.S. economy, then you can believe in the long-term success of an index fund.
Assuming an ETF has low fees, it can be a great way to generate stable returns with a diversified portfolio by investing in a single asset. Especially for beginners, index funds specifically are a great option. You are exposed to far less volatility than an individual stock with more predictable returns. Just be careful of those fees.
Expected annual return: 6-10%
6. Certificate of Deposit (CD)
A certificate of deposit (CD) is similar to a high-yield savings account. They are offered through banks and generate a higher guaranteed rate of return than a standard savings account. The big difference is liquidity.
CDs earn a fixed interest rate on a lump sum held over a set period. It needs to be held for the agreed-upon length to earn the interest. This length of time can be anywhere from 6 months to several years, with the majority being for a year. Thus, you can’t withdraw from a CD whenever you want.
The only advantage of a CD over a high-yield savings account is that you can generate a slightly higher rate depending on the account. This isn’t always the case, so research before picking a CD over a high-yield savings account.
If you need help with spending your savings, a CD may also help you lock in your savings. You are far less likely to spend it if you will pay a withdrawal penalty and lose your earned interest.
Guaranteed annual return: 4-5%
7. Individual Stocks
When you think of investing in the stock market, you likely think of individual stocks. These are where you invest in a particular company with the hopes that its share price increases over time.
The primary reason for individual stocks being so low on this list is that, for beginners, they are too volatile and risky. Individual stocks can be up 5% and down 6% the next. The daily fluctuations alone can be enough to make investors wary of investing.
In addition, there is no limit to those fluctuations. If a company has terrible news one morning, it can immediately be valued 30% lower than yesterday. Though this doesn’t happen often, it has happened to behemoth companies such as Netflix. Yes, the overall market has seen crazy fluctuations like this, but there is a near certainty that it will recover. However, with an individual stock, the company could never recover or go bankrupt.
Be wary of individual stocks, especially as a beginner investor. Individual stocks have made many investors a lot of money. But they have also lost many investors a lot of money.
Expected annual return: None. Too much variation.
8. Real Estate
If you want to diversify your investments outside the stock market, real estate is another powerful avenue for long-term investing. Long-term real estate returns are comparable to the market and can be even more potent with rental income. Plus, you can’t live in your stock portfolio.
The massive downside to real estate is risk. If your real estate burns down or the neighborhood is devalued, nothing is stopping your investments from tanking massively.
Investing in real estate generally has a considerable upfront cost. Even a 20% down payment on a house can be $60,000 in today’s market. There are ways around this, including military benefits, first-time homebuyers, foreclosures, etc. Just be prepared to front a lot of funds compared to a stock purchase.
The one exception to this is real estate crowdfunding. Real estate crowdfunding allows you to access the benefits of real estate without the headaches or upfront cost. To learn more about real estate crowdfunding, read this post.
There are many experts out there with decades of real estate experience, so I won’t dive too deeply here. I would recommend Financial Samurai for real estate information.
Expected annual return: 10% with a significant variation
9. Government Bonds
Bonds are seen as a complement to stocks. Bonds are far more stable than stocks but have a lower average return.
A bond is a loan to the US government where you earn interest on your loan. As you can imagine, this makes it far safer than giving a loan out to an individual.
Interest rates on bonds fluctuate based on interest rates. The average interest rate over the long term is 4.26%, so bonds are a safe option when interest rates rise. When interest rates were low back in February 2022, bond rates were as low as 1.82%.
Bonds have the same downside as CDs since you can’t withdraw them until the end of the loan without penalty. This locks up your money in the meantime.
Guaranteed annual return: 1.5-4.5%, depending on interest rates
10. Money Market Funds
Investing in a money market fund goes towards buying short-term government, corporate, or bank debt. These loans are not as stable as bonds but are far more stable than the stock market.
Money market funds don’t generate returns as high as a typical bond or high-yield savings account. Money market funds have the advantage of being shorter-term loans than a typical bond, making them more liquid. Though not quite as liquid as a savings account.
Money market funds are a solid option for investors looking to earn short-term interest with minimal risk.
Guaranteed annual return: 1-3%
This post presented 10 fantastic investment options for beginners. The most important thing is your personal preference. If an investment stresses you out too much, higher returns aren’t worth the damage to your mental health. Invest in what you are comfortable with, and only invest as much as you are comfortable investing.
I have found the most success in prioritizing retirement accounts. Then find a balance between riskier high-return stock market investments and guaranteed high-yield savings account emergency funds. This gives you the best of all the options and sets you up for future wealth.
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