The Simple Investing Habit Financial Advisors Swear By
Investing doesn’t have to be complicated. You don’t need to analyze stocks using technical indicators or read market news every morning to reach your retirement goals.
In fact, financial advisors tend to recommend a simple, straightforward way to build wealth: automated, consistent contributions and regular rebalancing.
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The power of dollar-cost averaging
Dollar-cost averaging (DCA) is a popular investing strategy that involves contributing a set amount of money to your portfolio regularly, such as every month. Using this strategy to invest in a low-cost, diversified index fund can help you build wealth over the long term without having to pick which stocks will take off — a task that’s challenging enough even for professionals on Wall Street.
You can set up these investments to take place automatically, which can take the emotions out of investing, making you less prone to panic sell. Dollar-cost averaging results in buying during market dips and rallies, ideally lowering the impact of market volatility on your returns.
The critical role of rebalancing
Many financial advisors also suggest rebalancing your portfolio regularly. This entails selling assets that have performed well and putting that money into underperforming assets.
Rebalancing is especially important for people who are over age 50 since they shouldn't have their wealth tied up in just a few assets that have outperformed. Doing so risks not having enough time for their portfolio to recover if the prices drop.
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The two-bucket system
Younger investors tend to invest in riskier assets like stocks, since their portfolios have more time to recover. But that strategy doesn’t work as well when your time horizon shortens. The two-bucket system can be used as a framework for helping make sure that you are taking on an appropriate amount of risk.
The first bucket should consist of enough cash to cover short-term expenses, like your essentials over the next one to three years. You can put this money into a high-yield savings account so that it earns more interest than it would in a traditional savings account. The second bucket is the “growth” bucket consisting of assets like stocks and bonds that will grow your portfolio over time.
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The benefit of automating your investments
If you have a 401(k), you probably already have money automatically transfering to the account when you receive a paycheck. But banks and brokerage firms often let you make automatic portfolio contributions into individual retirement accounts (IRA) and brokerage accounts, too. You can also automatically move a portion of every paycheck into the account your cash bucket is in.
Schedule times on your calendar to rebalance your portfolio. Some investors choose to rebalance once a year, while others do so more often. Or you can use a robo-advisor for help with automatic rebalancing.
The key to reaching financial goals
Discipline can go a long way as you save for long-term financial goals, but automatic investing makes it even easier, as you take a “can set it and forget it.” You probably won’t hit your retirement goals after a year or two, but making dollar-cost averaging and rebalancing a habit will pay off over the long term.