Work hard. Play hard. Invest harder: The early accumulator mindset
I have two types of friends when it comes to investing. One half lob their fortnightly paychecks into Tesla call options, crypto and speccy mining stocks. The other half also don't invest.
At the young professional age bracket, this is not surprising. Upon just entering the workforce, it can feel like you have all the time in the world. There is a mindset of invincibility and who can blame you - rising paychecks and minimal financial commitments are a recipe for a good time. The age group is synonymous with a work hard, play hard mentality.
But that doesn't mean you can't start building a portfolio for the future.
For those that do dabble in markets, it is likely going to be angled into growth or speculative prospects. And this makes sense: with a long time horizon and years of salary ahead, risk can afford to be taken. Dividend stocks are what your parents buy and term deposits are out of the question once you hear your friends talking about their lithium investments.
"Have you seen Vulcan? My mate bought them at $1 and they are now up over 1,300%. Investing for income could never." - A lot of young accumulators, probably.
But with continued uncertainty in markets and a growing fascination with passive income streams, this wire looks to uncover what role income can play in the portfolio of young accumulators today - and if there is always a trade-off with growth.
Accordingly, I reached out to Blair Modica, Director at BetaShares and Jessica Brady, co-founder of financial planner Fox & Hare. Our guests generously offered two unique perspectives on how young accumulators should be thinking about investing for income and their tips for the long road ahead
Younger people often allocate to risky assets given they are at the start of their respective investment journeys. Why should they be looking to start accumulating income assets as well?
Blair: I don’t necessarily believe that it’s essential for younger people to accumulate income assets when starting out on their investment journey, and it’s important to understand that just because an investment pays income, doesn’t mean it is less risky than a typical growth asset. However, there are a few reasons why holding income assets could hold a young investor in good stead.
Creating a portfolio that incorporates traditional fixed income assets can provide a young investor with protection should the equities market suffer a correction. In equity market sell-offs, there has been a tendency for government bonds and other high-quality debt to act as a ballast within a diversified portfolio, preserving capital that would otherwise have been allocated to equities.
Within equities, income paying stocks can be considered as an entry point to income assets for younger investors. Franking credits are an interesting quirk of the Australian taxation system and getting a handle on how these can assist investors is an invaluable lesson at a young age. Franking credits can assist investors by ensuring company profits are not taxed twice, helping to ensure the end investor is taxed on those profits based on their personal marginal tax rate.
Reinvesting income can teach a young investor about the power of compounding.
A virtue espoused most famously by Warren Buffett, compounding allows an investor to grow their wealth exponentially over time – and as a young person there is plenty of time to watch this happen!
Jess: It really comes down to understanding their goals - What do you want from your portfolio? Is it growth or income? If its income (which could be from investments in bonds, REITS, fixed income…) then whilst there is a higher risk level to cash given the low-interest-rate environment, they may be appropriate - but always have an emergency fund in cash accessible at any time.
Are there growth options that can also provide the desired yield?
Blair: The growth of Exchange Traded Funds (ETFs) has allowed investors greater opportunities to access different parts of the market that have commonly been the domain of institutions and fund managers. Investors can now access a range of financial instruments which have yield components, whether that be fixed-income bonds, hybrids or Australian and international equities.
There are certainly growth options that can provide the desired level of yield to an investor, depending on the level of risk they wish to take.
For example, an investor could buy units in an ETF that seeks to track an index that provides exposure to the 200 largest companies on the ASX by market capitalisation, which has provided an annualised total return of 9.3% over the 10 years to 30 June 2021, of which almost half was income yield, yet is still considered to be a growth exposure.
Alternatively, within the ETF universe, investors can invest in a range of asset classes that will produce different levels of yield.
Investors can access lower risk strategies like cash and bonds through ETFs, both of which will pay some levels of yield, whilst not involving the same capital risk as equities. The key here is that young investors can use portfolio diversification to create a portfolio spread across asset classes that historically have not all performed the same in different market scenarios. Accessing yield from different sources allows an investor to diversify their risk and may therefore provide a more robust investment strategy.
Jess: Potentially! You should be looking at the historical performance of a fund and look at both the growth and income performance (noting past performance of course does not guarantee future performance). Diversification is an important part of any investors strategy, it could be a mix of shares, exchange-traded funds, bonds, REITs and property. Depending on where your goal sits from a risk perspective - think about how far away your goal is to being achieved, how comfortable you are with any market movement along the way - you may want to look at a mix of both growth and income assets. Some diversified investment products have both included in them and offer a mix of both growth and income.
What mindset should a young accumulator adopt when considering investing for income?
Jess: The key mindset is to have your future self in the front of your mind. It can be hard reducing expenditure, especially in a “treat yourself” society, but knowing you are foregoing now to plan and achieve future goals is really important.
Don’t trade off looking wealthy for being wealthy.
When you start earning more, it is amazing - you now have more money to invest and achieve those goals. Don’t let the lifestyle creep mindset slip in. Keep focussed and keep allocating the extra earnings to achieving your goals. Also, when markets go down (which they will) don’t panic and sell if your goal is long term investing. I see this often, people get spooked by market movements and sell at the bottom and rebuy at the top.
Just get started! Micro-investing platforms now existing that let you can start with as little as $5. Most of the trading platforms tend to require around $500.
Blair: Financial technology has come a long way over the last few years, and this means it has never been easier or cheaper to access a wide range of investments for investors. There are plenty of applications in the market that will support trades of $100 or less, though it may be more economical for an investor to start investing once they have saved a little more money, especially if transaction costs are taken into account.
With minimal initial amounts of capital, it can be difficult to know where to place these funds. Over the last few years, ETF managers have provided a solution to this, by offering all in one diversified portfolios in one simple trade.
Once an investor has more funds to be able to deploy into the market, they may want to allocate a certain portion of their salary per month into accumulating more assets.
The investor should think of this not as spending their hard-earned salary, but growing their assets by making informed investment decisions that will benefit them in the future. Applying a long term timeframe to investing allows investors to ride out short-term volatility, and set themselves up for the rest of their lives.
Setting up a regular investment plan can be an incredibly satisfying way to grow your wealth, and achieve better financial security – over the long term, taking advantage of compounding can make a huge difference to an investment portfolio.
What are some common investing mistakes young people make at the start of their investing journeys?
Blair: The biggest investment mistake I was guilty of making when starting out was chasing quick wins, and not understanding that timing the market is almost impossible for anyone, no matter how much information you have available. It has become clear to me that creating a strong long term “core” portfolio of quality investments will more likely generate the most wealth over time.
Another mistake I think young people can make is ignoring the power of compounding to receive a dividend as cash, and spending that money outside of investing.
Setting up a dividend reinvestment plan, and watching that grow over time is a fantastic way to use income to create wealth. It’s also important to consider that just because a company or fund is paying a dividend, doesn’t necessarily mean it won’t grow over time, allowing you to capture a greater amount of growth from a particular security.
Jess: The biggest mistake is doing nothing! There is never a perfect time to start, the sooner the better. Some others include:
- Thinking you can time the market - not even investment professionals can do that!
- Not being diversified, having all your eggs in one basket is high risk
- Not sticking to the plan! Make investing regularly an automatic debit from your bank account, just like other bills you pay. Dollar-cost averaging is also a good way to ensure you aren’t buying on the most expensive day of the year
- Your friend Alex who has never worked or studied finance probably doesn’t know more than the experts, do your research and think critically before you jump on the bandwagon of random stock recommendations.
Financial advisers are often seen as only important to professionals and retirees. What value can they provide to early professionals?
Jess: Structure, strategy and accountability.
Our members are young professionals from 25 – 45, and we provide value through coaching, and helping achieve their goals. Yes, retirement planning is part of financial advice, but there is so much more to it.
Young people want to invest, build passive income, start a business, buy a house, travel, and even live overseas for a period of time…Planners are able to provide guidance and a financial plan to help make this happen.
Blair: Financial advice can be valuable to a young investor on several fronts. I think the narrative around financial advisers needs to change, all too often I feel that they are thought of as stock pickers who seek to deliver returns to a client for a fee – but this doesn’t really scratch the surface of how they can help you.
A financial adviser can act as a coach to keep you motivated and on track in reaching your financial goals, whether that be saving for a house, investing in the stock market, or planning for a comfortable retirement – and these are issues that we should be thinking about from a young age, not just as we approach retirement or have a large earning capacity.
A good financial adviser should be able to team up with you to provide strategic options to make your money work for you.
What is a hard lesson you have learned during your investing journey that has made you a better investor today?
Jess: Just start. I wish I had told younger me to be brave, lean in and invest. I did buy some shares in the peak of the GFC which I still have that have grown significantly, and provide a great dividend which I reinvest to keep the snowball growing.
Blair: Always take some time to understand what it is you are investing in and have a plan if things don’t work out. When I began investing, I would often take notice of what other people thought was going to be the next big thing, and rather than invest the time in understanding what these companies did – I was fixated on the share price. Rarely have I had a positive outcome when investing in the ideas of others that I didn’t really understand myself. It doesn’t matter whether your family, friends or the media commentators tell you something is going to be successful - without understanding yourself how it works, it’s difficult to picture making a profit on another individual’s opinion.
While investing for yield may not be a natural tendency for early-stage investors, it lends itself to a mindset focused on discipline, an incredibly important habit to build. Building passive income streams and a growing investment portfolio allows one to capitalise on the compounding effect. Albert Einstein termed this the "8th wonder of the world," and for good reason.
“He who understands it, earns it; he who doesn't, pays for it.”
Early accumulators must do exactly that - accumulate - and build a diversified portfolio over time. Both Jess and Blair have highlighted how accessible markets are today, as well as the importance of being informed and educated decisions.
Enjoy yourself, invest in a couple of ripsnorters along the way and make the most of your social prime, but ensure to embrace the most important commodity on your side: time.
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