Your First Investment: A No-Nonsense Guide to Starting Out

Many young (and not-so-young) people I speak with know they “should” be saving and investing, but they find it hard to start. I don’t blame them!

Not only is the investment world intimidating, but finding the savings to invest after paying for … well, everything … often feels like an impossible task.

If you ask me, every high school student should be required to take a financial literacy course that covers the basics of investing and borrowing (think student debt, credit cards and mortgages). It’s a bit wild to me that we let students sign up for tens of thousands of dollars of debt without a basic understanding of the implications.

My point is that they should teach this in school, but they don’t. So, there aren’t any dumb questions here.

In this article, I will give no-nonsense, practical advice on how to start investing and forming habits that will serve you well over a lifetime. I’ll provide some definitions and links along the way, but this article aims to answer “how to invest” more than “why you should invest.” (For an answer to that question, see here.) My advice isn’t “sexy,” but it can yield powerful results if given time.

I’m writing this article with a recent graduate (of high school, college or graduate school) in mind. But, even if it’s been a while since you were on campus, I hope you’ll find this helpful, too. And do not kick yourself for not starting sooner. We can’t change the past. All that matters is that you get started now!

As I said, I know many IVA readers are on the other side of the investment journey. (I recently wrote an article geared toward spending down your portfolio—see here.) However, you may know a young person who needs some help getting started. Please feel free to share this article with them.

Finally, Vanguard is an excellent place for newbie investors to get started—you’re partnering with a firm with a long history of looking out for investors and lowering costs. But guidance is crucial as not all Vanguard funds are created equal—that’s where The IVA comes in!

How to Start Saving

Here’s an obvious statement: To start investing, you need savings.

And when you’re just starting, it can be hard to find those savings—I get it. First (and second) jobs often don’t pay very much while you are responsible for all the bills, may be trying to pay off student loans, and are battling a well-oiled machine bent on getting you to spend more!

Often, young people are told (patronizingly) that they have nothing to complain about; they’d be fine if they just stopped blowing their money on daily lattes and weekend avocado toast brunches. While there’s a lot wrong with this advice—see the box below for my thoughts—remember that the very nature of savings and investing is to sacrifice some consumption today to spend (more) tomorrow.

So, if you are going to save, you need to assess where and how you spend your money to find something—maybe a subscription—you can temporarily do without. Then, commit to investing those savings.

That said, while all those small expenditures can add up, if you want to move the needle, you have to consider more significant items, like your career, the city (or region) you live in, whether you live on your own or with roommates, whether you own a car or take public transportation, and so on. Those bigger-ticket items can take time to address and solve.

Before You Invest!

Once you’ve started saving—congrats!—the standard advice is to pay off your debt (particularly any high-interest loans) and build a rainy-day fund before considering investing.

I’ll be honest. That advice appeals to me—but then, I’m allergic to debt. However, if I tell a young person they must pay off all their debt and build an emergency fund first, well, I’ve already lost them.

So, let me give a more nuanced answer. And I’m not just saying this to keep you engaged; I think there’s value in building our investment muscles as early as possible.

Pay off your high-interest-rate loans first. Then, balance the priorities of paying down other debt, building a rainy-day fund and investing.

What counts as high-interest-rate loans?

Credit cards absolutely fall in this category. Let me state clearly: Pay off any credit card debt before you start investing. The average credit card interest rate is roughly 20%, and, well, let’s put it this way: If you earn a 20% annual return over your investment lifetime, you’ll be one of the best investors of all time. So, you definitely do not want to pay someone else 20% per year.

Remember, when you pay off a loan, it’s like earning that interest rate.

So, what about student loans? Are those high-interest-rate loans?

That’s a tougher call. Student loans come in many shapes and sizes. Anything with an interest rate over 10% lands in my “high” bucket—pay it off before investing. However, current federal loans, with interest rates of 6.5% to 9.1%, land in a grey zone.

500 Index (VFIAX) has compounded at an 11.5% annual rate over the past (nearly) five decades. So, technically, you might be better off not paying off those 6%–9% student loans and investing in the stock market. At the same time, earning a guaranteed 6%–9% return sounds like a pretty good deal to me.

You could put a 6%–7% mortgage in this same grey zone. However, if we’re just starting, a mortgage probably sounds like a million miles off.

When it comes to these semi-high interest rates, you’ll have to make that call for yourself. I’ve never known anyone who has regretted paying off their loans (getting debt-free), but I also want to encourage you to start investing!

One important exception to this “pay down your debt first” talk: If your job comes with a 401(k) account and your employer will match some of your contributions, you should take advantage of the match—it’s free money.

What to Buy

Deciding what to buy and then doing it is often the part people get stuck on. Many savers end up just sitting on a pile of cash. That’s not the worst thing, but we need to save and invest to unleash the power of compounding over time. The IVA is here to help you clear this hurdle.

Your emergency fund should be in a money market fund, like Federal Money Market (VMFXX). You could also consider a high-yield savings account or other cash management solution, like Vanguard’s Cash Plus Account.

When it comes to your 401(k), chances are your choices will be limited. So, keep it simple by using the lowest-cost index fund or the age-appropriate target date fund. You might not stick with these funds forever, but they’ll get you moving in the right direction.

If you’re starting to save outside of your 401(k), you’ll have more investment choices—the world is your oyster (to an extent). But more choices can also make it harder to decide what to buy.

The IVA is here to help and would be an excellent resource for a newbie investor, in my (admittedly biased) opinion. We offer Model Portfolios, fund analysis and a regular stream of investment commentary, insights and education.

That said, you need a decent amount saved up to start following one of my Portfolios. You need around $6,000 to follow the Aggressive ETF Portfolio and about $20,000 to track the Aggressive Portfolio (if you use the ETF versions of the small-cap and real estate funds).

I recognize that for someone trying to take that first step, saving $20,000 sounds like an insurmountable hurdle. So, here’s my go-to recommendation for someone looking to climb the first rung of the investment ladder—I call it index-plus.

With most of your savings, say 90%–95%, buy a low-cost exchange-traded fund (ETF) that tracks the stock market. S&P 500 ETF (VOO) and Total Stock Market ETF (VTI) are solid options. You could also use Total World Stock ETF (VT) to add foreign stocks into the mix. You only need between $120 and $550 to buy one share of these ETFs—a more achievable hurdle to clear.

With the other 5%–10% (or whatever number is right for you), buy something that interests you. Buy the stock of a company whose products you like. Fascinated by AI or biotech? Find a company in that space. (If you can’t find a single company, there may be an ETF that covers your area of interest.) Cryptocurrency curious? Go for it.

The point of this bucket is to learn about and experience investing. You discover the most about yourself as an investor when you have real money on the line. Just don’t put more into this bucket than you’re willing to lose.

Of course, this “plus” (or “fun”) bucket is entirely optional. There’s nothing wrong with putting 100% of your savings into that low-cost ETF.

What I like about this approach is that it is simple to implement and doesn’t require a fortune to start. You’ll get an education and start building good investment habits. Also, though it’s a “starter portfolio,” if you stuck with it for life, you’d probably beat 7 (or 8) out of 10 of your friends over time.

Other Ideas

That said, if you’re looking for some alternative ideas, here are a few:

If you genuinely want to set it and forget it, use a Target Retirement fund. You’ll need $1,000 to start, but you’ll offload the decision-making to Vanguard.

If you don’t want to be 100% in stocks, you could mix in a bond ETF, like Total Bond Market ETF (BND). Or consider buying a LifeStrategy fund, which holds a steady mix of stocks and bonds over time.

I don’t believe that one-size-fits-all investing works, but you could do much worse than buying one of Vanguard’s life-cycle funds. More importantly, if these funds help you take that first step, well, take that stride and keep moving forward.

Robots to the Rescue?

Over the past decade (or so), a new solution has emerged for small-balance investors—robo-advisers.

At Vanguard’s robo-adviser, Digital Advisor, after completing an online risk assessment and choosing among three investment styles (all index, index and active, or ESG), the fund giant builds and manages a portfolio for you. The portfolio will look a lot like a Target Retirement fund, but it’s “all yours.”

You only need $100 to open an account with Vanguard. And it’ll cost you just 0.15% per year. (Using the index/active investment strategy will cost more.)

Vanguard isn’t your only option. Other big names in the space are Wealthfront and Betterment. Schwab also has a popular solution.

They all offer the same basic proposition: They leverage technology and scale to manage a (simple) investment portfolio on your behalf for a low fee. You (generally) won’t have a human you can talk to (that comes in once you’ve accumulated more money and/or paid a higher fee), but you get more support than you would if you went it alone.

Is a robo-adviser worth it?

Purely from an investment standpoint, my answer is no. It’s not too hard to replicate what they are doing on your own.

But, as with Vanguard’s life-cycle funds, if signing up with a robo-adviser gets you started and keeps you in the market, then absolutely go for it.

Why Vanguard?

An additional question I get is: Where should I open an account?

Of course, you can open an account at Vanguard, but plenty of other firms—Fidelity, Schwab, Interactive Brokers, Robinhood, and others—will happily take your money.

So, where should you go?

Given that I write a newsletter dedicated to Vanguard, it shouldn’t surprise you that I’m a big fan. The firm’s unique ownership structure means that fund shareholders are at the front of the line—something you won’t find at other firms. It’s also allowed Vanguard to be a low-cost leader for decades.

That said, if you’re following the index-plus strategy I mentioned above, there isn’t necessarily any advantage to going with Vanguard. You can find ETFs from other companies (like iShares, Schwab and Fidelity) that are as cheap as Vanguard’s. (You can also buy Vanguard’s ETFs on those platforms.) The truth is that Vanguard’s technology and service are a step behind its competitors.

In short, you could go to another platform and get the same investment experience with better service for the same cost.

That said, using Vanguard will serve you well today and when your investment approach evolves beyond that starter portfolio. (Not that it has to—as I said, the index-plus portfolio could serve you well for a lifetime.)

The real answer here is not to let this decision hold you back. Pick one platform and get started. Yes, inertia means you may stick with this platform for years, but you can always move your money down the line.

Automate, Automate, Automate

One final piece of advice.

Automate your savings and investing as much as you can. Set a rule to automatically transfer money from your checking account (or wherever your paycheck lands) to your savings and investment account.

If you are using a mutual fund, you can easily set up an automatic investment plan. More providers are enabling this feature for ETFs—it’s in beta test at Vanguard (see here and here).

The automatic nature of 401(k)s makes them so powerful—the money comes out of your paycheck before you touch it and is invested immediately.

Simply said, putting your saving and investing on autopilot is a smart move.

A Final Word

You can do this.

The first step of any journey is often the hardest. Once you start investing, it’ll get easier—or at least less intimidating. (Investing is never “easy.”) The sooner you start building good saving and investing habits, the better.

As the saying goes, "The best time to plant a tree was 30 years ago. The second-best time is now."