Happy February! Let's Fall in Love with Index Funds

January is officially behind us. It only lasted 827 days this year. Not bad. Fortunately, my daughter was born at the tail end of January, so it gives us something to look forward to and celebrate. You should’ve seen her face the day we took her home from the hospital a couple of years ago. Feb 1, 2023. It was absolutely freezing out. The second her tiny little face got a taste of that cold air she looked PISSED. She made eye contact with me and I could tell she was saying “You live in New England in winter? Why? Why would you do this to me? I do not like this. Please let me back in that warm womb. You look terrible by the way.”

But, alas, February is for lovers. And there are few financial instruments I love talking about more than index funds. As I promised you last week, I want to take a minute to discuss how to choose an index fund that’s right for you and your goals. Secondly, we’ll briefly discuss why it’s important to be a long-term investor and what “long-term” actually means.

CHOOSING INDEX FUNDS (THIS IS FOR EDUCATIONAL PURPOSES ONLY, NOT INVESTMENT ADVICE, DON’T FINE ME SEC PLZZZZ)

If you are a current investor or just investing curious, you may have noticed there are THOUSANDS of funds to choose from. This is where so many folks get stuck, overwhelmed, and just quit or choose “whatever”. I think you deserve better than that. I one day want to log onto whatever hellish social media platform will dominate our lives years from now to see pictures of you relaxing on a warm beach somewhere, retired and rich.

So let’s talk about choosing an index fund:

1. Think big picture first - what will this money be used for?

   Is this money for retirement? A house down payment? Kids college? A one-way ticket to crazy town? (Count me in!) You must give your investment dollars a “job”. Your 401(k) money is obviously is for retirement. Your taxable brokerage money might also be for retirement or another goal. It’s your personal decision, but don’t let your money be an aimless wanderer. The eventual use of your money will determine how you’ll invest it.

2. How long can this money grow?

   This relates to #1. The longer you can let your money grow in the stock market the better! What starts as small potatoes could end up a gigantic potato farm you can retire on comfortably if you let it grow for decades.

3. How old am I?

   Again, relating to #1 and #2. If you are 60+ years old and/or nearing retirement, you probably don’t want all your money to be in a single stock-based index fund. That would simply be too risky because you don’t have the time to let markets recover if they are down for any prolonged amount of time. As you get closer to retiring and needing the money, you’ll want to begin pulling back from equities (stock) and putting more into fixed income (bonds, cash, CDs, etc.). The right mix is honestly an imperfect science I’m happy to discuss more in the future. If you’re in this boat, you probably should be talking a good financial planner by the way, they can help you figure out an appropriate mix.

4. What index is this fund tracking?

   Is this fund tracking big indexes like the S&P, Dow Jones, Russell 2000, MSCI, NASDAQ, etc. Or is this tracking something stupid like Fartcoin? (Fartcoin is a real crytpocurrency by the way). Go with a big and broad index. Big and Broad sounds like the name of a great buddy comedy, no?

5. How does this fit in to my overall investment portfolio?

   Don’t pick an index fund like you’re picking a name out of a hat. This is your money. It’s your life. You don’t have to overthink it, but you should give it at least a little thought. Not to get on my preachy high horse, but since this is my newsletter and I make the rules, I’m going to for just a second. Reading a few good blogs, newsletters, books, podcasts on investing and getting started goes A LONG way. People often ask me how I learned this stuff. Honestly? I learned 90% of the fundamentals by reading personal finance books from my local library. There are no secrets. If you want some recommendations, hit me up! I have tons. For most investors, having a few good index funds is totally fine. One that tracks the US stock market, one that tracks an international index, and maybe a broad bond index fund is a great start that’ll give you tons of diversification and solid long-term growth (Mandatory disclosure: this is not investment advice, this is for educational purposes only. Hello, SEC, I am following the rules! I’m a good girl!)

Then think smaller picture:

1. Is this coming from a reputable fund provider?

   While we love to hate gigantic companies in this country (and often rightly so), they do provide greater assurances and safety when it comes to offering securities like index funds. I would recommend sticking with your Vanguard, Fidelity, Schwab, BlackRock (iShares) big companies when it comes to your money. These behemoths are highly regulated and have been around a long time.

2. What’s the expense ratio on this fund?

   The “expense ratio” is a term you should get familiar with. It’s essentially how much does it cost to run the fund. If an expense ratio is 1% that means for every $100 you invest in the fund, $1 is used to cover management fees and operating expenses. The lower the expense ratio the better! With an index fund, you can get super low expense ratios, like lower than 0.1%. That’s more money in your pocket and less in the company offering the fund’s.

3. Is this fund closely tracking the index? (Compare performance of index vs fund)

   Not all funds are created equal. One quick thing you can do is take a look at the performance of the fund over periods of time (1 year, 5 years, all-time, etc.) and see how the index it’s tracking performed in that same time frame. You can easily do this using Yahoo Finance, Morningstar, the fund provider (Schwab, Fidelity, Vanguard, etc.) or just ask ChatGPT to do it for you. The closer the fund is to replicating the actual index - that’s amore!

4. Other considerations: tax efficiency, reinvestment options, dividend yields.

   Sure, there are plenty of other things to consider when purchasing any investment, not just index funds. These may require a bit more thought than just this one newsletter, but I don’t want these other considerations to hold you up. As your portfolio grows, you’ll want to consider the taxes involved with investing (this has a lot to do with the types of accounts you’re investing in and how long you hold onto the investments!) I also suggest reinvesting dividends and interest. This is usually an option when you purchase an index fund. If you aren’t sure how to do it, your Schwab/Fidelity/Vanguard/Fartcoin customer service team can help! Reinvesting dividends and interest will help your investment grow faster. As for dividend yields — mehhh, I won’t bore you with more. This newsletter is already way too long. I linked to a good article instead lol. I’m writing this at 8:45pm and my brain is fried more than the egg I just ate.

   Just get started investing and keep learning as you go. You’re never going to be perfect at it, good enough is actually good enough to build some real wealth.

If you want to win as an investor you must think long-term. Why? Because markets are volatile in the short-term, but over the course of many years they trend upwards. So you’re far more likely to lose money if you’re investing short-term and far more likely to build significant wealth if you’re investing long-term. Simple as that.

What do I mean by long-term? Generally speaking (and this a personal rule of thumb), if you can keep money invested for at least five (5) years, you’re better off investing it than just saving it. If you’re going to need the money in fewer than five years, go with something like a high yield savings account instead.

Here’s the bottom line. In the next decade we don’t know what the markets are going to do. There might be a few years of terrible losses, a few years of nothing, and a few years of high returns. We simply do not know. But we can learn from history. Over decades, the markets have done really, really well. As I mentioned last week, since it’s inception, the S&P 500 has averaged 10% returns annually. That’s terrific and you won’t get that with your money sitting in a savings or checking account. Is the stock market perfect? No. Can it be scary to put your money into this giant symbol of capitalism? Absolutely. BUT! It has proven time and again to be the best way to build wealth. Hands down. Nothing else competes historically. You just have to be patient and consistent — which also happens to be something I tell myself every day while parenting a two year old.

Wow, this was long. I’ve been known to ramble. If you read every word, I congratulate you and commend you for your ability to stick with it. I hope this has helped you in some small way.

Anyhow, I love to love ya. Talk to you next week!

-Catie