The Basics

For the young investor, there should be a basic comprehension of how investing works. Understanding the relationship between risk and reward is incredibly important. Fundamentally there are two types of investments — stocks and bonds:

Tips for the Young Investor’s 401(k) - Stocks and Bonds
Barclays US Aggregate Bond & S&P500 TR Index. 15-year rolling 8/16/2004–8/15/2019

Proper Investment Allocation

A first step to creating a proper investment allocation, or mixture of stocks and bonds, is considering your timeframe. It’s a basic rule of investing: the shorter your timeframe the less risk you should take. If you’re young and have decades until retirement, allocating enough to stocks is a key ingredient to success. A common practice is to allocate roughly 40% of your equity exposure to international investments. The chart below shows the world market by size broken down into countries. It’s very common for the United States and International markets to tradeoff taking the lead. [How do you know what category an investment falls into? Your 401(k) should have a list of investments labeled with their respective asset class. You can also search for the fund using Morningstar].

Tips for the Young Investor’s 401(k) - World Market Capitalization
Source: DFA. In US dollars. Market cap data is free-float adjusted and meets minimum liquidity and listing requirements. Dimensional makes case-by-case determinations about the suitability of investing in each emerging market, making considerations that include local market accessibility, government stability, and property rights before making investments. China market capitalization excludes A-shares, which are generally only available to mainland China investors. Many nations not displayed. Totals may not equal 100% due to rounding. For educational purposes; should not be used as investment advice. Data provided by Bloomberg.

Things You Can Control

Investors may not be able to control the market, but there are things you can control. As a basic rule, always choose to receive a company match if available. It’s common for employers to contribute to your 401(k), but only if you invest your own money as well. For example, if you put in 3% of your salary your employer may match your 3% contribution dollar for dollar. Investors who fail to contribute may not receive company matches, essentially wasting money. Even if you’re in debt and have student loans, make it a high priority to save and receive the match to let compounding work for you.

Tips for the Young Investor’s Traditional 401(k) vs. Roth 401(k)

Tips for the Young Investor’s 401(k) Small Changes Equal Massive Change
Image Credit: Carl Richards, Behavior Gap

How I Invest My 401(k)

In the end, investing is a highly individual activity. So, how do I personally invest in my own 401(k)? Currently, I invest in a Roth 401(k) for the simple reason I expect my tax bracket to be higher in the future. I currently put 5% of my salary away and the company contributes 3%. I invest in a mix of individual mutual funds that target 90% stocks and 10% bonds because time is on my side. Knowing my account could be halved at any time due to market volatility isn’t a concern since I won’t touch this money for decades. For my stock allocation, I target about 55% to US equities and 45% to International equities.

More Reading: Investment Strategy Basics: How to think about portfolio construction

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