This article was originally published on Fool.com. All figures quoted in US dollars unless otherwise stated.
Most people want to retire rich, or at least with plenty of money to provide financial security and a chance to enjoy life.
Unfortunately, far too many people end up with too little money set aside for their later years.
If you want to make sure you're a wealthy retiree, then there are six rules you'll need to follow throughout your life to get you there -- and breaking any one of them could seriously damage your long-term financial prospects.
Here they are:
1. Don't spend more than you earn
Earning a high income doesn't guarantee you'll end up wealthy in retirement. And earning a low income doesn't always doom you to struggle.
The key factor that affects your financial security in retirement isn't how much you earn, but how much you spend. If you're consistently spending all of your paycheck -- or worse, spending more than you earn and taking on debt -- you're never going to be rich.
Instead, you need to live well below your means so you can save enough to build a nest egg that will support you once you're no longer working. Saving at least 20% of your income is ideal.
2. Invest an appropriate amount of your assets in stocks
Most people can't just save their way to wealth because their savings rate would need to be too high.
Say that you define "rich" as having $1 million saved, and you have 30 years to get there. You'd need to save more than $2,500 per month to hit your target if you stuck your money into a high-yield savings account and earned only a 0.5% annual return on investment.
But if you put some of your money into the stock market and earned an 8% average annual return, your monthly savings target would come down to just over $735. That's a lot more doable, and that return is consistent with that of the broader stock market over the long run.
You don't want to put too much into stocks, though, as you don't want to risk outsize losses. The best option is to develop a personalized investing approach based on your age and risk tolerance. If you don't want to do that, an easy shortcut is to subtract your age from 110 and use the resulting number as the percentage that you invest in the market.
3. Watch your investment fees
Investment fees eat away at your returns. You need to watch what you're paying to invest your money.
Pay attention to:
- Expense ratios, which are costs of owning mutual funds or ETFs expressed as a percentage of the fund's assets.
- Advisory fees, which are charged as a percentage of assets under management for actively managed investments.
- Administration fees, which some 401(k) plans charge.
- Inactivity fees, which some brokerage firms charge.
- Commissions, which you sometimes pay for purchasing assets.
Keeping your fees as low as possible can help maximize your returns so you don't waste tens of thousands of dollars over your investing career.
4. Build a diversified portfolio
When it comes to your retirement funds, you can't afford to put all your eggs in one basket. Investing too much in any particular type of asset, any one company, or any one industry could put you at too great a risk of suffering outsize losses.
You can minimize the investing risk you're taking on by buying a diverse mix of different assets.
If you're purchasing shares of individual companies, watch the mix of companies you're buying to ensure you end up diversified. You can also invest in exchange-traded funds, such as an S&P 500 index fund, to make diversification easier.
5. Invest for the long term
Day trading may seem like a good way to make money by capitalizing on market trends. For most people, it's not.
While you may be able to make a profit sometimes if you get lucky, even financial professionals have difficulty consistently beating the market by actively trading stocks they hold only for short periods.
Instead of gambling on your instincts paying off, invest in companies you'd be happy to hold on to for at least a decade. This will reduce your risk. And when you're making a long-term commitment, you'll have more time to devote to researching options and getting to know the companies and industries you're investing in.
6. Invest only in what you understand
Lastly, you can't afford to chase obscure investments or get-rich-quick schemes with your retirement funds if you want to be wealthy. You need to know what you're investing in, how it's supposed to make money for you, and why you're investing in it.
By following these six rules, you should hopefully end up saving plenty of money for retirement and investing it wisely so it can work for you and help you to build the wealth you need to live the life you deserve as a retiree.
This article was originally published on Fool.com. All figures quoted in US dollars unless otherwise stated.
