As a college student, it can be hard to find the motivation to invest. Why start worrying about retirement when you haven’t even started your career?
But investing is like growing trees, and planting even just a few seeds early on can be more important than planting a whole orchard later in life. In other words, any amount you can invest while still in college will have a large impact on your financial future.
If you’re wondering how to get started, we’ve got you covered. Here’s everything you need to know about investing as a college student.
What is Investing?
Investing is the process of putting money in the stock market, where it may outearn inflation and help you build long-term wealth. Inflation is the rate at which the cost of goods and services increases over time. The only way to have your money outpace inflation is to invest it in the stock market.
Putting money in a savings account and investing money are not the same thing. When you put money in a savings account, the rate of return will never exceed the inflation rate. And from a pure earnings perspective, the difference between saving money and investing money is huge.
Here’s how the difference plays out over time. Let’s say you invest $100 a month in an index fund (we’ll explain those later) that returns 8% annually. After 40 years, your account is worth $352,858.95.
If you had kept that money in a savings account that earns .50% interest annually, you would only have $53,136.26 after 40 years. That’s not to say you should never keep money in a savings account, but if you need money for a long-term goal like retirement, then investing is the better option.
Investing vs. Trading
When college students think about investing, they often imagine buying a stock, holding it for a short period of time, selling it when it’s worth more than what you bought it for and repeating the process with a different stock.
That process is known as trading, which is different than buy-and-hold investing. Most financial planners advocate for buy-and-hold investing, which means buying stock funds and keeping them for a long time – often several decades or more.
Trading success stories make for great headlines, but the reality is that they are few and far between. Most people end up losing money when they trade.
“The stories of people getting fabulously wealthy are seductive, but you don’t hear about those that have lost enormous amounts of money,” said financial planner Brent Perry, CFP® of Piedmont Financial Advisors.
Investing FAQs
What kind of account should I open?
There are several different types of investment accounts you can open. Here’s how they compare:
401(k)
After graduation, you may work at a company that offers a 401(k), which is an employer-sponsored investment account that comes with tax benefits. In fact, students who are working through school may even have access to a 401(k) from their current employer.
Many companies, including popular employers like Starbucks and Walmart, will match your 401(k) contributions. This means they’ll add money to your 401(k) when you contribute, so it’s like getting free money. If you currently have a job, ask your boss if you’re eligible for a 401(k) and how to sign up.
Individual Retirement Account (IRA)
If you don’t work at a company that offers a 401(k), you may still be able to invest by opening an Individual Retirement Account (IRA). To be eligible for an IRA, you have to contribute money that you earned from a job. If your only source of income is from student loans, then you can’t open an IRA.
In 2022, the maximum annual amount you can contribute to an IRA is $6,000 or your annual earned income, whichever is lower. For example, if you only earned $5,000 in total, then you can only contribute $5,000.
Taxable brokerage account
You can’t open an IRA if you don’t have a job, but you can still invest by opening a taxable brokerage account. Unlike IRAs and 401(k)s, you won’t be able to get any tax benefits with a taxable brokerage account – but at least you’ll still be investing.
What should I invest in?
Perry recommends that students invest in index funds, like an S&P 500 index or a total stock market index. An index fund tracks a particular basket of stocks or bonds. When you invest in an index fund, you’re getting a wide variety of stocks or bonds, which means you’re more likely to have your investments grow over time.
Investing is like eating a pie. If you only invest in one company, you only get one flavor. But an index fund is like getting dozens of flavors all at once.
An S&P 500 index fund is a popular choice in this category. The S&P 500 is a group of the 500 biggest publicly-held companies trading in the US. When you buy a share of an S&P 500 index fund, you’ll have a small piece of every company on that list.
A total stock market index fund is another popular type of index fund. It follows all the publicly-traded US stocks, including those not listed in the S&P 500.
Should I invest in individual stocks or cryptocurrency?
Investing in individual stocks or cryptocurrencies should be a small part of your total investing portfolio. It should be dessert, not the main entree.
A cornerstone of investing success is the ability to diversify your investments, which means investing in a large variety of funds. If you keep most of your money in individual stocks or cryptocurrency, you run the risk of losing most of your portfolio’s value when those individual stocks or cryptocurrencies tank. Investing in index funds is popular and backed by research because these funds are already diversified.
Why should you start investing now?
One of the most important concepts in investing is compound interest, which is when your earnings start to earn money for you. Compound interest is how your earnings can vastly exceed your personal contributions, and its power comes from two elements: time and rate of return.
While you can’t control the rate of return, you can control when you start investing. That’s why it’s so important to start investing as soon as possible.
Let’s say you start investing $25 a month while you’re a freshman in college. You invest in an index fund that earns 8% annually for four years. After you graduate, you increase your contributions to $100 a month. After 40 years, your investments are worth $387,535.
If you waited until graduation to start investing, you would only have $352,858 after 40 years. That’s a difference of $34,677, all because you invested a measly $1,200 while you were in college.
Disclaimers
