Unlike many investors, I don’t buy or trade individual stocks. I explain in detail why I’ve bypassed this new trend in a previous blog, but the main reason I don’t buy or trade individual stocks is because the price of stocks changes too quickly. It’s hard to predict if a stock will go up or down. Since stock prices are so volatile (and change so often) there is an increased risk that I might lose money. My goal is to invest in a way that increases the chance I’ll make a profit but has a low risk that I may lose money. The main way I maximize profit and minimize risk is by investing in index funds.
Index funds are groups of many different stocks that follow a certain index. For example, one index fund may follow the S & P 500 index and purchase hundreds of stocks from American companies. Another index fund may be filled with thousands of stocks from all around the world. There are many different choices. When you purchase an index fund you are buying a fund that has purchased a percentage of all the stocks in that index. By purchasing a percentage of hundreds or thousands of stocks, you have better diversification in your investment portfolio with much lower risk of losing money.
There are many different choices of index funds to choose from. I have accounts at Vanguard and Fidelity (which are two of many different types of brokerage firms). Through these companies I have chosen 5 main index funds:
1. Total Stock Market Index Fund I invest in this fund at Vanguard through my employer-sponsored retirement account at work (called a 403b which is very similar to a 401K). I also invest in this fund through my Roth IRA at Fidelity. This index fund has a portion of over 3,600 stocks from small, medium, and large sized American companies. With this fund, I own a portion of all the stocks in the United States. The greatest percentage of money in this fund is invested in Apple, Microsoft, Amazon, Facebook, Google, and Tesla. It also has much smaller percentages of thousands of other companies. Altogether, this fund has made over 20% in profit over the last year and 15% in profit over the last 5 years.
2. Total International Stock Market Index I also invest in this fund at Vanguard through my 403b and through my Roth IRA at Fidelity. Unlike the previous index fund, this particular fund has over 7,000 stocks from all over the world. 38% of these stocks are from European countries. 24% of these stocks are from emerging markets in developing countries. 26% are from countries in the pacific and about 6% are from countries in North America. This fund has made over 11% in profit over the last 5 years.
3. Total Bond Market Index Fund I invest in this fund at Vanguard through my work 403b. This fund buys almost all of the bonds in the United States. Since these are bonds, there is much less risk that I will lose money but because of this extra caution, the returns aren’t as great. This fund has over 10,000 bonds with 63% of them being US Government bonds. It has made a return of about 5% over the last 5 years.
4. Total International Bond Market Index Fund I invest in this fund at Vanguard through my work 403b. This fund buys bonds from all around the world. This fund has over 6,000 bonds with over 57% of them from Europe. It has made a return of about 4% annually over the last 5 years.
5. Real Estate Index Fund I invest in this fund through my Roth IRA at Fidelity. This fund is filled with lots of smaller real estate funds that are full of many smaller real estate deals. I chose to invest in this fund in an effort to add some real estate investments to my portfolio. Over the last 5 years, this fund has had an average annual profit of 5%..
Overall, about 20% of my money is in real estate index funds, 5% in bond index funds, and 75% is in stock index funds. What is the makeup of your investment portfolio? Are you using index funds?
4 Reasons I Don’t Buy or Trade Individual Stocks
Over the last few months, many of my friends have started investing. Because they know I love talking about personal finance, they will often ask me advice on which stocks to purchase. I tell them all the same thing: “I don’t buy individual stocks, I only buy index funds.” They usually seem a bit perplexed and want to know why. Here’s my answer:
1. It takes a lot of work and timely information is difficult to find. As a busy doctor, I don’t have a lot of free time. Some weeks I work 80 hours in the hospital or have over 20 patient message to review. I barely have time to fold my laundry on a regular basis let alone do extra work, outside of work. When I do get a free afternoon or “golden” weekend in which I’m not on call at the hospital, the last thing I want to do is be productive. Most of the time, I just want to relax with friends and family eating good food or enjoying quality time. Trading stocks or researching companies to invest in, isn’t on my priority list.
Even if I did have the desire to learn more about various companies, finding good, timely, information can be quite challenging. Most of the time when information about a company is finally published it has already been known to Wall Street investors beforehand. This means it’s almost too late to make an investment decision that could make you money. For example, if I turned on the news and heard that Facebook was acquiring another company that could increase its profits, chances are the price of Facebook stock would have already increased to reflect this change. By the time lay people like you or I tried to capitalize on this potential increase in stock value it would be too late.
2. It requires substantial research on each industry and company. Although apps like Robinhood and Akorns have made purchasing individual stocks easier, they haven’t necessarily made it more profitable for the consumer. In order to actually make money when you purchase stocks you need to purchase companies that will increase in value and do so in a way that you will still make money even after you pay the taxes on your profits. This may sound easy to do initially. You may be thinking that you’d just purchase stock of Netflix and Facebook or Tesla and Apple then call it day. Unfortunately, it’s not that simple. If it were, everyone would do that.
There are some companies that seem to grow exponentially in ways we could never expect and other companies that seem to implode overnight. It’s difficult to predict which ones will make money over time and which ones will not. In fact, Wall Street companies spend millions, if not billions, of dollars each year on market research to help provide more information to help them make better predictions and investment choices. Even they still struggle to choose the right companies year after year.
3. The market is volatile and things change quickly. If 2020 taught us anything, it’s that life can be unpredictable. Random unforeseen events that happen in other parts of the world can affect us in ways we could never have imagined. These effects not only impact our daily lives, but they can have drastic effects on our economy and the success or failure of certain businesses.
Before the coronavirus, many of us would have assumed that airlines and travel industries would do remarkably well in the summer. The weather is great, kids are out of school, and most people have time off of work to go on vacation. We all got a rude awakening in March when the coronavirus pandemic put a drastic halt to almost all leisure travel and many airline industries found themselves on the brink of bankruptcy. Past performance isn’t always indicative of the future valuations and this makes picking and choosing individual stocks to purchase quite risky. Which leads me to my last point…
4. It adds too much risk and I don’t like losing money. When you buy individual stocks you’re essentially rolling the dice and hoping that the company’s stock you purchased will increase in value over time. As we mentioned before, stock prices are volatile. A company’s stock could be worth $20 today but then drop to $5 tomorrow due to some global tragedy or company scandal that you had no idea about. They best way to mitigate risk and decrease your chances at losing money (and increase your chance of making money), is to diversify your investments.
This means purchasing stocks in a variety of different companies from a slew of different industries. Since it would be too cumbersome to individually purchase all the stocks, most people such as myself, just buy index mutual funds. An index fund does the work of buying all the stocks for you. That way, your investments are diversified in a seamless, stress-free, risk-averse manner.
One of the best decisions I’ve made: automatic savings
When I graduated from medical school, one of the best things I did was set up automatic savings. I made a budget that had about 25% taken away in taxes, decided to live on 50% of my income, and made the bold move to have the remaining 25% placed in an entirely separate account. This account was reserved for building wealth through saving, investing, and paying off debt. It was one of the best things I did and here’s why:
1. It allowed me to grow my emergency fund. One of the best things about having part of my paycheck go into an entirely different bank account was being able to save money in a separate place. Because the money in this account isn’t connected to my checking account, I couldn’t spend it. Month after month, the money just kept adding up and before I knew it, I had saved thousands of dollars in an emergency fund. I remember looking at the account 6 months after I started saving and being so proud of myself. It made me even more motivated to keep saving. Plus, it gave me a sense of relief to know that I money to cover unexpected expenses.
2. I started investing early for retirement and building my net worth. Another awesome thing about automatic savings was that I was able to start putting money into my retirement account. Unlike money sitting in my savings account, the money I had automatically deducted from my check for retirement was being invested in a way that would make me even more money in the future. Although retirement may be decades away, I need to start saving and investing now in order to have enough money in those accounts to cover all of my needs. I don’t want to be relying on social security checks from the government trying to make ends meet on a small sum of money when I’m in my 60s. I instead, plan to invest the money now in a way that would allow me to live the life I want free from financial burdens.
3. I paid off a lot of debt. Regardless of whether you hate debt or don’t mind it, paying it off can feel like a weight lifted off your shoulders. Although I entered a loan forgiveness program for my student loans, I still had other credit card debt I needed to pay back. Unlike most people who go straight into medical school from undergrad, I lived in Washington, D.C for two years before starting medical school. Although that time was rewarding, I racked up lots of credit card debt. (The city was super expensive, and I used credit cards to cover some of my bills since my salary was low) By the time I left the city, I had thousands of dollars of debt to repay. When I got my first job as a doctor, I had hundreds of dollars automatically withdrawn from my separate account each month to pay off this debt. By the end of my first year as a doctor, I was credit card debt free! Now, instead of spending hundreds of dollars on a credit card payment each month, I’m able to invest even more money towards retirement and raise my net worth.
4. I now have money for vacations, Christmas gifts, and other indulgences. Along with investing for retirement, building my emergency fund, and paying off debt, having a portion of my check automatically sent to a separate account also allowed me to save money for things that bring me joy. I now have some money in a “vacation fund” so I can take trips and create memories with friends without racking up debt. I have also been able to save money each month for Christmas gifts so that my spending in December doesn’t put me in a financial hole for the next year. Plus, I have money saved for expensive purchases like a new phone or laptop should I need it.
5. I learned how to live below my means. I think this is by far the most important lesson I learned. As a physician, my life is a little different from most. I spent many years in school living off of student loans, and now must spend a few more years in residency where I’m paid a low salary by the government. However, once I finish residency, my salary quadruples. It’s an interesting timeline. Since there’s so much hard work and delayed gratification involved to get to the end goal, it can be very tempting to “not worry about money” and simply get what I want because I know that eventually I’ll be able to afford it. Although this seems fine, many people with this thought process inflate their lifestyles by too much, rack up lots of debt, and are unable to retire when they’d want to because they didn’t save enough money earlier on in their lives. I don’t want that to be me. Learning to live below my means has taught me to be less materialistic, more giving, and more appreciative for the things I have. It has also helped me learn to be humble and not to compare myself to other people. In other words, living below my means helped make me more mature.
My point? As you can see, automatic savings in a separate account has had many benefits on my life. Although it can be difficult to live on half of my paycheck while others seem to be living a much more lavish lifestyle, I realize that the sacrifices I make now will pay off in the end. Practicing self-discipline by saving money, is one of the best decisions I’ve ever made.