- If you want to invest yourself, you need to decide what your investing goals are. You could save for college for the kids, save for your dream house, save to be able to travel wherever and however you want, save for retirement, etc. Say you have a new born and you want to save for college expenses at Harvard. Between tuition, books, room and board you will need $30,000 a semester. Multiply by 8 semesters and you have $240,000.
- Once you have your goal, you need to determine how much time you have to reach that goal. With a new born you will have 18 years to reach your goal.
- Because you want to be sure you have the money available, you want a conservative portfolio. But you have 18 years, so you are reasonably sure you can achieve the market expected returns. The third thing you do is choose an asset allocation that gives you the risk you are comfortable with. In this case I think an 8% return is conservative and achievable.
- Calculate the asset mix that will give you 8% return with a 12% equity return and a 6% bond return. In this case you would need to have 2/3rd bonds and 1/3 equity to get a return of 8%. With so much in bonds and relatively little in stocks, this would be considered a conservative asset allocation.
- Plugging the values into a calculator means you would need to make monthly investments in your account of $500 to reach your goal. You would make total payments of $108,000 and the investment returns would give you $132,000.
- Open an account with a discount broker. Use one of the college saving tax deferred accounts. You will probably need a couple of thousand dollars to open the account.
- Put 1/3 of the money in an index fund like the SPY (S&P500 ETF) and 2/3 in a diversified bond fund like the Lehman Aggregate (ticker AGG for the ETF).
- Arrange for automatic deposit in your new brokerage account each month and buy the mixture 216 times.
- Send your child to community college and spend the rest.
Larry, I just read your Inside KMM post on savings and I am definitely very interested in how to educate not only myself but others on how to diversify and how to make sense of information.
Here's the first part of the Washington Post article I saw on "financial failings":
By Neil Irwin
Washington Post Staff Writer
Sunday, March 5, 2006; Page F01
Meet the typical American family.
It has about $3,800 in the bank. No one has a retirement account, and the neighbors who do only have about $35,000 in theirs. Mutual funds? Stocks? Bonds? Nope. The house is worth $160,000, but the family owes $95,000 on it to the bank. The breadwinners make more than $43,000 a year but can't manage to pay off a $2,200 credit card balance.
...
"This is awfully sobering," said Peter Speros, managing director of Sullivan, Bruyette, Speros & Blayney Inc., a wealth-management firm in McLean. "These numbers are just so much worse than I would have thought. It's a real eye-opener."
Posted by: Monica | May 21, 2006 2:36 AM | Permalink to Comment