The 20s Money Retirement Plan
While this website has been online for only a short period of time, it is time to make a couple statements regarding the purpose of 20s Money. We are not a website dedicated to just opinions on stocks (there are plenty of those out there, and most can do it better than us) and neither are we experts on remortgages. We are a website dedicated to helping people in their 20s become the investor they need to be to achieve their financial goals.
With that said, it is time to publish our plan for you, a 20-something who wants a bright financial future, to accomplish your goals and have a financially secure future. While we are officially releasing the 20s Money Retirement Plan, this is by no means a final product. It will evolve based on the political and economic landscape of our country and of the world. Consider this the first crack at the comprehensive plan for a person in their 20s to build significant wealth in their lifetime. Let’s begin.
Before getting to the actual plan, it is important to note the assumptions that this plan makes regarding the individual attempting to put this plan into action. You cannot make this plan work without meeting these assumptions:
- You are in your 20s and you want to build extraordinary wealth.
- You are willing to put the time into learning how to invest. Each minute you spend learning will pay off big time down the road.
- You are willing to make lifestyle changes to put yourself into a position to begin this plan as soon as possible.
Step 1: Position Yourself For Saving – Get Rid of Bad Debt and Build a Reserve
Before you can progress towards you financial future, you need to position yourself financially to be able to start putting money into your future. This means getting rid of any bad debt (credit cards and other high interest debt). Furthermore, it means building up a cash reserve for emergencies. If something happens and you need a chunk of money, you don’t want to have to dip into your long term reserves for cash.
Step 2: Build Up Some Savings Before Purchasing Individual Stocks
It makes no sense to buy $100 worth of stock each month. You are going to get killed on trading commissions and other fees; the only exception to this is a 401(k) where you have continuous contributions (more on 401(k)s below). I would recommend reaching the $5,000 mark before you establish your base portfolio. Build up your cash in a high interest savings account or if you want stock market exposure, buy an S&P Index Fund (in large chunks to keep your trades to a minimum).
Step 3: Create Your Target Portfolio Structure
Once you have acquired enough money to fund your investment account, you want to establish your portfolio similar to the following structure: 80-95% of your portfolio is called your pillar investments and 5-20% of your portfolio is your short term investments. The more experienced, risk tolerant investor will have a higher percentage of the portfolio dedicated to short term investments; for most investors, the majority, maybe even the entirety, of the portfolio will be for your pillar investments.
This plan will focus on how to select your pillar investments since this is the main force that will drive your wealth for your future. Future articles geared towards advanced investing will recommend short term plays for the smaller chunk of your portfolio.
How Does Your 401(k) Fit Into This Structure?
For most young professionals, the 401(k) is their primary method of saving for their future. 20s Money is not recommending against your 401(k), it is a fantastic and probably the easiest way to start saving as a 20-something. As long as your 401(k) is offered to you by your employer, you should maximize any company matching you can obtain (it’s free money). Due to limitations inherent with a 401(k), any money you can save beyond the contributions necessary to maximize matching, 20s Money recommends contributing to a Roth IRA.
One of the limitations of many 401(k) plans is not having the ability to invest in individual stocks which can help (and hurt) your attempt to outperform the market. Click here for reasons why your retirement may depend on your investments outperforming the market. Because our goal is to outperform the market, we encourage educated investors to take higher control over their investing. If you leave your company with your 401(k), you can roll your funds over to a Rollover IRA and take control of the investments more directly. Then you will be able to implement this target portfolio with the money you saved using your 401(k).
During your time with your employer, your goals should be the following: 1) focus on contributing enough to your 401(k) to get every dime of free money possible with regards to company matching and 2) focus on building your target portfolio in a Roth IRA with any additional savings.
Step 4: Your Pillar Investments
Like we said above, your pillar investments should make up the majority of your portfolio; therefore, they are of extreme importance. They should be positions in individual stocks or ETFs that you will continually add to overtime. Only in extreme circumstances should you sell these positions. These positions should be in large multi national companies in a variety of industries. They should also offer decent dividend yields.
The Case For Dividends
I recently read an article by an investor who wanted to determine how long it would take a one time $1,000 investment to become a position that pays $1,000 through dividends annually. His tests revealed an average of 35 years meaning if you are 25 years old and invest $1,000, when you are 60 years old, you will be able to collect $1,000 each year. Pretty amazing, considering it is a single, one time investment.
Many advisors recommend bond funds to retirees as investments because of their steady payouts. However, these payouts erode over time due to inflation. Dividend payouts are protected against inflation because they increase when inflation rises. When you retire, you want a portfolio full of large positions in the best companies that pay high dividends. How big of a portfolio? Well, let’s measure the size in terms of the cash flow produced by the portfolio.
Your goal is to build a portfolio that pays out $250,000 in dividends each year. Inflation adjusted for 35 years from now, this amount would be the equivalent to $100,000 in 2008. Some 20-somethings may have higher goals, some may have lower targets; for 20s Money this is our goal. Any retirement income on top of that is bonus.
Seems like a daunting task, considering a portfolio with a 4% dividend yield would need to be worth $6.25 million to pay out $250,000 annually ($100,000 annual dividend payouts would require a $2.5 million porfolio at 4% yield). However, by starting early and by choosing the best pillar investments, it is possible. It is important to mention that real estate (unless it is cash producing) does not help you reach your retirement goals. Your house is where you live, and you will still need a place to live in retirement.
How To Select Your High Dividend Yielding Pillar Investments
For your pillar investments, you want strong companies with proven histories. These companies should have dividend yields of at least 1.5% (be careful of companies with extremely high yields as they tend to not last). These companies should have a consistent history of continual dividend increases meaning they actually increase how much they pay out per share each year. In order to be able to increase dividend payouts each year, the company must have consistent earnings growth. Any company where its earnings are not safe cannot be a pillar investment.
Your goal is to build long term positions in these pillar investment companies. Any buying opportunity should be maximized. For example, in the current environment, a credit crunch was largely responsible for a market correction which brought down the prices of many companies that are potential pillar investments. Your goal is not to time the market, but you should definitely maximize any buying opportunity.
By reinvesting all dividend payouts, you will accomplish several things. First, you will be a continuous buyer of the stock which will provide dollar cost averaging and protect you from possibly entering a position at an overvalued price. Second, your portfolio will grow its pillar positions automatically.
Your strategy to grow your pillar investments then is two fold:
- Reinvest your dividends to automatically build positions (same effect as compounding interest).
- Use your savings to add to positions when buying opportunities present themselves. If you are making any short term gains with the small chunk of your portfolio, use these gains to add to positions at buying opportunities as well.
Some Potential Pillar Investments To Further Research
Each of the following companies have a history of consistently increasing their dividend payout:
- Novartis (NVG): 2.9% Yield
- Coca-Cola (KO): 2.6% Yield
- Johnson and Johnson (JNJ): 2.7% Yield
- Altria (MO) and Philip Morris (PM): 4.2% Yield
- Anheuser-Busch (BUD): 2.7% Yield
- Veolia Environment (VE): 3.4% Yield
- Merck & Co (MRK): 4.0% Yield
Have any recommendations for pillar investments for other 20-Somethings? Join the discussion by adding your comment below.