How to Spend a Work-Free Retirement

Who would not want to spend their retirement years free from work-related stress? We all assume and expect that the word “retirement”, after all, means reaping the many years of diligently working through adulthood, often after finishing college and going through odd jobs. But it seems, that is not the case in most situations. In fact, according to a survey done by Bankrate, 70% of respondents said they would prefer to work through retirement as long as they can. Some 28%, on the other hand, would choose to enjoy their golden years sitting back and enjoying their retirement. 

How do we make sure we can spend a work-free retirement? Here are some suggestions:

1. Choose a high savings rate. Saving money early in life and doing it regularly can provide protection for your future retirement years. After forty years, through the magic of compounding interest, even small amounts can become large enough to make a difference. Those who have 401(k), choose the largest percentage possible to avail of the full benefits of the company match. And for individuals above 50, George Reilly of Safe Harbour Financial Advisors in Occoquan, Virginia, suggests that they avail of “catch-up contributions” which enables them to augment a contribution of $6,000 yearly on top of their $18,000 maximum limit allowed.

2. Minimize fee exposure. What makes savings undesirable is the presence of fees which are automatically deducted from savings accounts and can then sometimes be overlooked. The impact of a 1% fee through one’s productive years over 3 or 4 decades can readily amount to $100,000 or more. Reilly recommends investing in a target-date fund filled with index fund which is allowed by 401(k). To take advantage of time, select a fund that corresponds to a target date which is 5 to 10 years after your scheduled year of retirement.

3. Delay your Social Security. At 62, a person can avail of Social Security; but delaying the use can bring in higher monthly payments. Instead of 70% at 62, one can get 75% if you wait until you retire. Moreover, delaying it further, say until 70, you can receive 132% of the original payment stipulated. Peggy Kessinger, of Cedar Financial Advisors in Beaverton, Oregon, suggests that to reach 70, one should tap tax-deferred accounts. And since taxes must be paid on such accounts, you must quit before the Social Security takes effect, in order to avoid increasing your income bracket.

4. Work in government. Those who work in government obtain more retirement perks compared to those who do not because the former become beneficiaries of the Federal Employees Retirement System which includes an annuity that builds up over one’s employment years. You avail of this annuity, which has been built up by you, the employee, and the agency, in terms of monthly payments for the rest of your life. And that guaranteed income comes in addition to a Thrift Saving Plan and Social Security, benefits that others do not enjoy.

5. Postpone retirement as long as possible. Stretching your working years will increase your savings as well. Although it may not be that attractive to many, financial advisors suggest saving sufficient money to support one for 25 to 30 years, depending on the ratio of spending. Postponing retirement can benefit the employee by gaining that targeted amount.

6. Practice disciplined spending. Spending is the twin of saving. We cannot do one wisely without doing the other as well and hope to come out the winner in the end. According to Kessinger, an average minimum target of 3% annual withdrawal will allow one to keep one’s savings intact. However, one’s expenses will depend on how much expenses will be eventually cut during retirement. In evaluating expenses, work-connected costs, such as daily transportation to and from work, can be removed. But if these costs are substituted by travelling or house renovation, the expense amount will hardly vary. This will result into a much longer time before you can achieve your financial goal.

Start looking at retirement as a rewarding time worth welcoming by following these few steps meant to help you prepare accordingly. 

Creating Short-Term Savings in 60 Seconds

What if your air-conditioner suddenly decided to give up its ghost? Do you resurrect it (replace it with a new functioning unit) using a credit card and then scrimp on your meals for half a year in order to cover the cost of enjoying a cool summer and a warm winter?

Small and big accidents can happen and it helps a lot if you have the cash to insulate you from the worry and stress. Spend the next 60 seconds to learn how to create a short-term bundle of cash effectively.

0:60 Estimate your monthly expenses

The main purpose of having a bank savings is to have the cash to spend for essential needs in the event of unexpected or unfortunate life situations. Ask yourself then how much you would need in case that happens (Heaven forbid). It is as simple as asking yourself how much you spend every month.

You can add up what you spend monthly on your basic needs, such as food, house rental or mortgage payment, transportation cost and other expenses you regularly incur for yourself and your family.

Include an additional amount for unexpected expenses

This could include average surprises such as a broken pipe or substantial ones such as losing a job. Bring your budget up to take care of the usual needs you spend for while looking for a new job. Next, compute the amount you would have to raise during the time you would be unemployed by multiplying the monthly income you lost by the number of months (say, you would be job-hunting for 3 to 5 months). In addition, you can integrate whatever available cash sources you may have and other expenses to cover the needs of people who depend on you financially.

There you go. That rounds up the figure you have to save as an emergency savings account.

It is time to see into your future expenses, from 1 to 5 years

Having accomplished the first step, think of other cash needs you have in mind. Does your fence need repainting? Do the children need dental check-ups? Your family has always wanted to go to Hawaii?

Such plans should find a place in your short-term savings account. Sit down and crank up the figures to derive an amount for the next few years.

Think about how fast you will achieve this objective

You need to raise the amount in the least possible time because emergency expenses are like thieves that strike when you least expect them. Determine how much you can comfortably spare monthly to that pot. You cannot afford to avoid this call; so for your own good, take it. Your survival rests on its being there to turn to. Having done that, you can then estimate your non-emergency short-term savings.

Decide where to put your stash

Consider how you can get your hands readily on the money you have kept away for any eventuality. No sense preparing for an emergency without the hardware being there when you need it. Hence, you must choose a secure place for your money – that is, it must not be an investment which is as fickle as the weather in Seattle. Here are the possible choices:

• Money market mutual funds
• High-yielding savings accounts
• Money market accounts

For savings intended for expenses that we refer to as non-emergency (those which you really wish you could spend on a whim), liquid investments can provide a better return on your money. These include certificates of deposit.

Compare the various types of investments online

You can check out bank adverts in the media, compare national rates on Bankrate.com, find out how much your broker pays on cash in your brokerage account, know more about money market funds and ask your credit card union and your bank what they offer. Investigate the following:

• What are the relative returns for equal time frames?
• What are the prevailing interest rates?
• Over what time frame do these rates apply?
• What are the fees for buying and holding the investment?
• What is the smallest investment allowed for attractive interest rates?

(Be careful of some institutions which attract investors with high rates only to get your attention but bring them down once you negotiate. Look over the actual rates in the past at Bankrate.com to check how the interest rates change over time.)

Work the plan!

Time is running short, if you have not noticed by now. You need to have a short-term emergency savings today, not tomorrow! Do not wait until you find yourself paying an onerous credit-card debt incurred because your smartphone broke, the plumbing leaked, the wife got sick or the winds blew away your roof.

Bonus tip: Force your savings!

In case it is not your habit to save, you need not worry as an automatic salary-deduction or transfer can help you move in right away. Talk to your employer if the company can split your paycheck (direct deposit) into your regular account and your short-term savings account. Or you can have an auto-transfer from your checking account into your emergency account.

There is more, if you still have time.

Some valuable links for you – click away:

• Where to keep your cash
• Steps to take to build a cash-stash
• Safeguard your finances for your peace of mind
• Easy computations for figuring out a rainy-day savings
• Where to find a high-yield account for your short-term savings (Our Banking collection can help you today)

What Type of Saver are you?

What kind of saver are you? Lazy or go-getter? For those who are lazy, automate your finances and do a regular evaluation. 

But to motivate yourself to really save, you need to trick your mind through some form of psychological self-manipulation. This is because saving, whether for college, summer vacation or retirement, requires unnatural discipline, hard work and postponed satisfaction. Setting aside some money instead of spending it outright demands a significant amount of will power and enough risk-tolerance.

Michael Resnick, senior wealth management consultant and registered financial planner of GCG Financial in Deerfield, Illinois, describes his job as an expert in behavioral finance, “My job is to talk desperate clients off the ledge.”

Here are four classes of savers: Which one are you? How can you design an effective plan to attain your goals?

1. The target-setter.This type of savers aims to gradually achieve a goal and monitoring proof of every achievement, according to experts. They seek the exhilaration of attaining that target and using that feeling to motivate themselves to progress even more," according to Melissa Sotudeh, a wealth manager at Halpern Financial in Rockville, Maryland.

An effective method which target-setters typically utilize is to assign a separate savings account for a major goal – preferably one without monthly fees or a required minimum balance. Save money using that account for a European tour, for instance, or a down payment for a dream car. With that, you can check regularly your progress toward the goal.

Target-setters can also make use of downloaded financial tracking apps, such as Mint, which enables savers to itemize goals electronically and to monitor them regularly with a PC.

2. The risk-taker.The risk-taker laughs at your mutual fund. Her eyes are on a real estate venture or a newbie hedge fund from which she hopes to get triple-digit gains. She wants to gamble all her savings on a risky, get-rich investment; and she finds it difficult to avoid the impulse.

Risk-takers can go ahead and have their thrill with their money. However, they must avoid that gambling urge without endangering other major savings goals, such as retirement.

They can assign at most 10% of their portfolio to fill that itch, if they can afford to lose that much, according to experts. "That money can serve as their play money," states Marguerita M. Cheng, registered financial planner and co-founder of Blue Ocean Global Wealth in Rockville, Maryland.

Lora J. Hoff, registered financial planner and wealth manager at IPI Wealth Management in Dallas, suggests that risk-takers should peg an amount they can throw away, leaving the remainder to be invested in less risky accounts.

3. The worrier.This type of savers avoids any form of risk. Perhaps, they got hit by a stock market meltdown or were fired from a job. Hoff believes her clients from the Depression era prefer to have their money put in a secure and accessible investment; but millennials may also have their own worries in relation to genuine risks.

Jittery savers are typically those who have a $200,000-checking-account that has remained stagnant. They have no qualms about stashing their money somewhere. What rattles them and causes them to lose sleep is investing it in an asset that can produce more than a savings account can provide.

Resnick thinks this attitude of worriers comes from their difficulty to see the long-term perspective and from their habit of reading the headlines.

Nevertheless, worriers can increase their money by depositing part of it into an online savings account which normally provides better rates than an ordinary savings account or checking account, according to Cheng. Moreover, they may feel at ease investing in certificates of deposit at different durations, which mature semi-annually or annually. They can also invest partly in a money-market account. There are other alternative products that will suit them without bringing them anxiety attacks, according to financial experts.

4. The slacker.These slacker-savers avoid any thought of saving, investing or retirement. They usually automate their savings – as an example, asking payroll to regularly funnel money into their 401(k) and further telling their bank to auto-transfer money from their checking into a savings account. Their good behavior as savers runs totally on autopilot.

But they can do more.

Slackers fail to put in the time to evaluate their savings regularly, financial experts say. For Resnick, an annual visit with the squirreled money is vital. They need to check everything and ask questions, such as: "What were the goals set at the start? Have any changes been made on those goals?"

Perhaps, some changes in your life require that you revise your goals: a newly-bought home, a new job, a newborn child or a teenager about to enter college.

Now, find out where you fit and make some positive adjustments to enhance your wealth-building capacity.

Oakmere Advisors in Tokyo, Japan, Singapore on How to Protect Your Finances from Disaster

Like eating a healthy diet, maintaining a well-planned budget is generally more of a wish rather than a reality.

This is because planning and keeping to a strict budget entails a lot of work -- so does counting calories and hunting for and preparing organic and nutritious food. Balancing your checkbook monthly is already a tedious process; consider how much more time you will need to evaluate every purchase you make.

Electronic banking and computer apps can help ease up the task. Whereas before you would need to check every receipt and expense made, now, software programs such as Quicken and tracking websites like Mint.com can make the work much easier with your computer.

With an Internet connection, you can access your bank account and credit card transactions and download them to your computer. Depending on the services provided, such information may even include type of expense for certain items. Using the data, you can derive a general perspective of your financial situation where you are and what you need to do to improve your lot.

Remember, these applications are only as good as the data they receive and process. Not many individuals have such simple finances as that of using only a credit or debit card for all their purchases. Usually, the small cash purchases you often overlook pile up to a substantial amount that impacts on your finances. Since those cash expenses do not appear on any bank or credit card statement, your budget app will not churn up accurate statements -- unless you input such information yourself.

A solid comprehension of your income and expenses is vital in building a personal financial budget; hence, try to input as much detailed information as you can. Nevertheless, if you find that task above your skills, try these guidelines to help you obtain financial self-awareness.

All-cash Mode

The easiest strategy to budget is to go on all-cash mode in all your financial transactions. There are several ways to do this. First, cash your salary checks and then use the cash on hand for expenses – although having so much cash with you may not be a safe way to do it. Second, you can deposit your checks and take out a certain amount of cash you will need for a few days or a week each time. This is a safer way.

But you cannot avoid using alternative means of transaction other than by cash. Banks, for instance, may demand customers to pay mortgages by automatic withdrawal from a bank account. Utilities and other firms that bill on a regular basis have required clients to transfer to automatic billing as it saves time and expense for all parties concerned. If you cannot avoid those, transferring most of your transactions to cash will help provide you with a better picture of your financial health or un-health.

After every month, check how much cash you have on hand, if any at all. This will give you an idea if your expenses are within your income. While this may not tell you specific information on where exactly your money flows to, it helps you appreciate how you can manage the small cash expenses which are often bypassed by most tracking programs.

Use the envelope method

This is similar to the cash method, although it requires a little more planning. As in the cash method, encash your paycheck; but categorize the cash into several items. For example, if you receive $4,000 monthly, you can put $1,000 in an envelope for your mortgage payment, $300 for gasoline, $350 for dine-out food, $450 for groceries, $500 for utilities, etc. Divide your cash into as many types of payments as you can afford to monitor.

This approach allows you to gain greater awareness of how you dispense with your money. For instance, if your grocery envelope still has cash at the end of the month but your dine-out envelope empties out sooner, it tells you where you spend more time eating out rather than at home. Likewise, based on the number of envelopes you have, this method can easily show you the weak areas in your finances you need to strengthen.

The hybrid method

These various schemes can be effectively utilized even if you do not use an application in your PC. Nevertheless, with an app, they can help fill up the gap which such software programs usually miss out.

For instance, your app may tell you that you earn an average of $700 monthly beyond what you are spending on tracked categories. However, a quick check tells you your checking account has not increased the same amount every month. Most possibly, the difference comes from the cash expenses that are not inputted into the app. Using either the cash or envelope method for that $700 will reveal a clear picture of where that surplus is flowing into, providing a more comprehensive perspective of your total expenses.

Indeed, budgeting requires quite an investment in terms of time and effort. But imagine the huge benefits you will derive from the savings on cost and decrease or removal of unwanted expenses. A solid budget plan can help you raise some money you already have toward making some savings or investments, not to mention the cash you will have for emergency purposes. Such easy-to-do steps will help even the most time-strapped individuals determine their financial situation

Oakmere Advisors in Tokyo, Japan, Singapore: Be Debt-Free in 9 Ways

Some things you can easily neglect or forget without causing any harm, such as what the last two answers are in the crossword puzzle today; but you cannot do that to a debt. Debt stays like a recurring nightmare in the night, haunting us and chasing us like Mr. Anderson in a Matrix world, charging compounded annual rates of 20% or more of monthly interests. We are stuck in that world’s system – with no escape in sight. But there is a way out of debt, using our free debt-crushing strategies -- and with the help of some of your rich friends and wealthy relatives (see tip No. 5). The nine ways to escape this enslaving system follow:

1. Exceed your monthly dues

The first step toward freedom from debt is to pay above the demanded minimum monthly payment. Do not extend your burden of paying the usual 2% to 3% of the outstanding balance for the required payment term. Moreover, banks would enjoy such subservience, even wishing you would pay for longer terms to increase their profits. Tell yourself now that it is time your own happiness is your priority, not the banks.

The strategy is to pay as much as you can afford regularly for every month. For instance, if your minimum amortization is $200, make it $150 or 200 even more. Try to look into your daily or monthly expenses to see where you can get the extra money. (To find some tips on how to do this, read our Living Below Your Means discussion forum.) For example, minimize or eliminate dining out and cook at home. Desserts are things we can do without, if you think about it. Happy hours would not be so happy if you think you have a debt to pay off. "Luxuries", in short, are things you can do without and are rich sources of hard cash.

The operative word (as in, you need to get it out of your system through some form of mental surgery) is “sacrifice”. Then, you will find a way to drastically up your debt amortizations. It is the best way to save valuable money that would go into paying interests. Moreover, you will have a faster way of escaping your “debtly” situation. There is no joy in that kind financial crisis, having to live in constant penury and fear.

2. Snowball your debt payments

If you have credit cards, think seriously of how you can win some more points. Which one gives the lowest rate of interest? If you have not gone beyond the highest amount allowed on that card, try moving your higher-interest bill to it. This is allowable in most cases. Why pay 18% if you can pay only 12%?

In case your total credit balance does not fit on your low-interest card, pay at least the minimum amounts required for all cards except for one. You can then transfer most of your debt repayments into that one credit card, and do it as fast as you can. Once the balance on that card is zero, transfer the next by applying the same rapid repayment scheme.

This is what “snowballing” means – one small step at a time until you accomplish more. While the debt is decreasing, the money you will need to undo your debt will increase. The money you use to pay off “snowballs” until your debt disappears. You see how easy it is?

One alternative means of moving higher-interest debt to a lower-interest card involves the use of promotional offers from banks which provide credit card facilities. Note such ads offering to "Transfer all your credit card balances” to them at only “5.9%" for a period of a year. Why not? 5.9% is far beneficial to you than 18% interest. It would be unwise not save all that money in interest which could be funneled to reduce the principal every month, effectively decreasing the outstanding debt balance even more.

But think before you bite into any offer. Check properly the details for any possible catches. For instance, find out whether the interest rate will remain at the offered rate after the introductory period expires or revert to what you pay now. This would mean changing again and other possible surprises along the way. Banks have become wary of credit card holders who jump from one card to another to avail of the low introductory interest rates. Many such offers now stipulate that once you move outstanding debts from the new card within a year, the regular interest rate will revert retroactively to all outstanding balances. That stipulation might come as a big burden to bear for cash-strapped individuals, giving no relief whatsoever. The fine print tells it all – if you can read patiently.

3. Withdraw your savings account

You can decide to withdraw your savings and investments and slowly pay off your debt using the proceeds. It might appear unwise; yet, sometimes one has to play the fool to survive. Even at 12% rate, your investments would need to bring in above 18% before paying all taxes to match the dollars flowing out. Besides, the money in your savings account will not earn you close to that rate of interest. Terminating the debt this way, amounts to achieving that 18% gain, minus any risks involved otherwise. The greater the interest rate you pay, the more desirable repayment becomes against any existing investment.

4. Take out a loan using your life insurance policy

Does your life insurance policy provide a cash value? Then, make us of it by borrowing your own money. The interest rate is usually way below commercial rates; and you can have longer terms to repay the loan. Be sure you pay it faithfully. In case you die prior to repaying the debt, the remaining loan balance and interest will be taken from policy’s face value due to the beneficiary. Indeed it is a small burden to carry now to try to remove a debt than allowing your loved ones to carry the burden, if you leave them permanently before paying it back.

5. Persuade family and friends for help

There must be a relative or friend who trusts you and cares enough to reach out to you with a helping hand. If so, you stand to get a loan at a bargain rate with less pressure on the payment schedule. In order to keep your relationship intact, frame up a formal agreement on paper to clarify expectations on either side as to interest and repayment scheme. This will do away with any hurt feelings or doubts in the future. And try to stick to the agreement if you want to remain welcome at family, office or school events.

6. Acquire a home equity loan

If you have a home whose equity has piled up over the years of paying the mortgage, why not get a home equity loan (HEL) credit facility at the highest allowable amount?

There are two ways that a HEL can help you save: first, applying the loan amount to your debt repayment, which allows you to exchange an 18% loan, for example, for a 6%-7% loan; second, itemizing deductions when you file your income tax credits HEL interest as a deductible item in most instances. A 25% marginal tax bracket will provide the 6% loan an effective rate of 4.5%, which is probably the best deal you can get on a personal debt.

Avoid, however, the common pitfall of getting an HEL, paying out your current debt and then ringing up credit card charges once again. That will give you two birds to shoot at with a single bullet, since you cannot afford another bullet to solve both challenges. Avail of HEL to erase your credit card debts, and then pay off HEL as well. Makes you appreciate your dire situation and the meaning of the saying, “There’s HEL to pay!”

7. Avail of a loan through your 401(k)

If you have a 401(k) retirement plan, yours may have a facility for loans up to 50% of your account's value, or $50,000, whichever is smaller. Usually, the rates are one or two points above prime, making them lower what credit cards charge. This makes 401(k) plan loans a way to pay off your debts. The best thing about this scheme is not just the lower interest but that you pay it back to your account as each dime paid on interest goes straight to the borrower's 401(k) account and not the lender's.

The downside on this plan includes the following: first, you repay the loan and interest with after-tax dollars, and the interest will be subject to tax again when you finally withdraw money from the 401(k) in the future. Moreover, the loan repayment period is five years. Leaving your work before repaying the whole loan will, therefore, require you to immediately pay off the loan. If not, that amount will be considered as a distribution to you and subject to tax at regular rates. And in case if you are below 59 and one-half years old, an additional 10% excise tax will be charged as penalty for cashing out your retirement funds early. Hence, make certain your 401(k) loan can be fully paid prior to leaving your job.

8. Restructure your loans

Are you at your rope’s end? No savings left. Friends and relatives cannot be of help. You do not own a home or a 401(k) account to loan against. In short, you are wiped out and you consider filing for bankruptcy. Wait! Hope always shines in the darkest places. Ironically, the prospects of bankruptcy can be of use to you.

If your creditors become aware of your situation and that you cannot renegotiate, your only recourse is to declare bankruptcy. You may seek a lower repayment term; ask for a lower interest rate; and satisfy their demand for payment. Creditors, more often than not, will choose to receive any deal where they get to recover some of their investment rather than nothing at all.

The transaction table is always open to a reasonable compromise where everyone wins and no one loses anything. It is worth a try and in time you will realize such recourses do work for the best. There are even organizations which will do it for you, in case you are not sure what you need to do.

9. Final option: Declare bankruptcy

If it comes down to the last option you have left, file for bankruptcy. As much as we all want to pay our debts, sometimes repaying is not at all possible. But be aware of the consequences.

For ten years, you will have a credit record with this bankruptcy information, making it hard for you to acquire a loan for that long. Furthermore, it is ironic that filing for bankruptcy requires a lot of money. Hundreds of dollars of lawyer fees and court filing expenses have to be met to get the relief you seek. With tougher bankruptcy laws in the offing as well, you might end up not obtaining any relief at all.

Two kinds of personal bankruptcy relief are available: Chapter 7 and Chapter 13. Chapter 7, called straight bankruptcy, provides almost total relief from debts, not including such items as alimony, taxes, child support, loans acquired through filing false financial records, loans not included in the bankruptcy petition, student loans and legal decisions against the petitioner.

Although Chapter 7 frees you of the duty of paying back most creditors, you may need to give up a big part of your property to partially pay off the debt. Nevertheless, some states have different laws providing exemptions on particular types of property, for instance, a specific amount of home equity, an old or low-value vehicle, minimal worth of jewelry and other personal belongings, and tools used in the pursuit of one’s business or occupation. Although such exemptions are quite small, no one will need to start over from zero.

Chapter 13, also referred to as the "wage-earner plan," is quite different. You can hold on to your property but give up all financial control to the bankruptcy court. The court recommends a repayment scheme based on your financial capability for paying off all or part of your debt for period of 3 to 5 years, during which creditors cannot harass you for any payment. You are also free of any interest charges on your debts during that period. Once the requirements of the court-approved scheme have been satisfied, you come out debt-free from the bankruptcy.

This article is based on a David Braze article with a few revisions.

When's the Right Time to Invest?

In the stock market, timing is nothing -- but time is everything.

It's not surprising that first-time investors often worry about the timing of their initial stock purchases. Getting started at the wrong point in the market's ups and downs can leave you staring at big losses right off the bat.

But take heart, Fools: Whenever you first invest, time is on your side. Over the long haul, the compounding returns of a well-chosen investment will add up nicely, whatever the market happens to be doing when you buy your first shares.

Don't waste time

Rather than fretting about when you should make that first stock purchase, think instead about how long you're planning to keep money in the market. Different investments offer varying degrees of risk and return, and each is best suited for a different investing time frame.

In general, bonds offer smaller, more dependable returns for investors with shorter time frames. According to Ibbotson, short-term U.S. Treasury bills yielded roughly 3.7% per year from 1926 to 2003. (We picked 2003 as an endpoint because it was right after the end of a bear market.) While this seems relatively meager, remember that inflation was nonexistent for most of this period, making a 3.7% average annual return fairly attractive until the 1960s.

Longer-term government bonds have provided slightly higher returns: an average of 5.4% annually from 1926 to 2003. Surprisingly, their gains have been relatively volatile. In the 1980s, for instance, they returned nearly 14% annually, but in the 1950s, bonds lost an average of nearly 4% per year.

Stocks have also been very good to investors. Overall, large-cap stocks have returned an average of 10.4% per year from 1926 to 2003 -- quite a bit higher than bonds. Surprisingly, the range of the returns for stocks is not that much larger than the range for bonds over the same period. Stocks suffered a slight decline in the 1930s, but enjoyed several particularly strong decades as well, including the 1950s (18% average annual return), the 1980s (16.6%), and the 1990s (17.3%).

When will you need the money?

The longer you have to amass your cash, the greater risk you can accept, since you'll have more time to wait out periods of bad returns.

If you need the money within the next five years, you'll want to avoid individual stocks and stock-centric mutual funds. If you need the money within the next three years, you should also avoid bond mutual funds and real estate investment trusts (REITs), which can drop if interest rates increase.

With those options eliminated, you have a few choices left: buying individual bonds or certificates of deposit (CDs) with durations of less than three years, putting your money in a money market fund, or using a savings account. Each vehicle generates income while guaranteeing the return of your principal. The sooner you need the money, the less you can afford to lose, right?

On the other hand, stocks are a very attractive option for long-term goals like retirement. The higher returns are simply too good to pass up.

When to sell

Once you've decided what to buy, and when to buy it, you'll next need to decide when to cash out. Since bonds essentially sell themselves when they mature, this question primarily applies to stocks or stock mutual funds.

Some investors believe they can "time" the market, accurately predicting when it will rise and fall. As a result, they counsel selling all your stocks when the market is about to fall, and buying them all back when the market prepares to rise. Unfortunately, if investing were that easy, these same folks would be sunning themselves on beaches in Acapulco, rather than trying to sell their timing methods to other investors.

Granted, when overall economic woes begin to hurt corporate earnings growth, and companies start to flounder, you might consider selling some of your overvalued, lower-quality companies. But beyond that very general scenario, an accurate system for timing the market remains an investor's pipe dream.

Many mutual fund investors are quick to withdraw their cash when returns turn sour. But several academic studies have proven that investors who jump from one fund to the next, chasing performance, tend to do vastly worse than those who stay put. Be prepared to stick with a fund through good times and bad -- with one exception.

In an actively managed fund, you've entrusted your cash to a professional money manager. If that manager abandons your fund to manage another, his or her replacement may not manage your money with equal skill, and you may want to consider selling. Otherwise, a few months of poor fund performances are no reason to jump ship.

Selling stocks can present a more complex set of questions. Two major warning signs may suggest that it's a good time to sell:

The business's fundamentals change. Is a new competitor rendering its basic products obsolete? Is the company branching out into areas wildly unrelated to its core competencies, leaving you no longer able to understand the business?

The stock becomes overvalued. Has the market bid the company's shares up to unsupportable heights? Is the stock likely to crash on the slightest bad news? Does the risk of such a tumble outweigh any tax hit you'd take by selling now?

While both those red flags can provide excellent reasons to sell, many of the other screaming sirens surrounding the market can be safely ignored.

Don't listen to the noise

The media pays meticulous attention to Wall Street -- but it tends to focus entirely on one particular index, assuming that it reflects the entire market. Index goes up? The market is bullish! Index goes down? Here comes the bear market! Index yo-yos back and forth? Now the market is "volatile!"

Some investors, particularly those keen on technical analysis, study the ups and downs of market graphs to gauge whether investors will take the market higher. For Foolish investors, this is an exercise in futility. Successful investing relies not on monitoring the market as a whole, but on analyzing the strengths and weaknesses of individual companies. Whatever the market's doing at the moment, a buy-and-hold approach to investing is the best way to earn reliable long-term returns.

Review, review, review

Of course, you can't just load your portfolio with a few stocks -- however well-chosen -- and forget all about them. Like houseplants, investments need regular care and attention to flourish. Unless you've parked your money in government bonds, with their guaranteed rates of return, you need to check on your investments regularly to make sure they're beating the market -- and doing so more substantially and less expensively than other, similar options.

Reviewing your investments, particularly when you may have made mistakes, also offers a crucial opportunity to learn from your mistakes. Everyone makes errors now and then, but most successful investors avoid making the same goofs twice. Set aside time to review your portfolio at least once every three months, if not every week. While you shouldn't be glued to the computer screen, tracking your investments minute-by-minute, don't forget them entirely, either.

Beyond the basics

Congratulations -- you've gotten through the Getting Started part of Investing Basics! But you're not finished yet. There's plenty more for you to learn, including the 13 Steps to Investing Foolishly, How to Value Stocks, and much more. Go at your own pace, take a break when it's too much, and enjoy learning about the Foolish world of investing.

Investing Strategies: Your First Stock

You can go your whole life without ever buying a single stock. But until you do, you won't really understand the full potential of investing -- and the rewards that come with it.

For beginners, mutual funds give you a great way to get your feet wet. With just a few hundred dollars, you can invest in a mutual fund that will give you instant access to thousands of different stocks. The diversification that comes with broad-based mutual funds brings with it a measure of security. You may still lose a lot if the whole market goes down, but if one particular company gets hurt, it won't have a huge impact on your overall portfolio.

Conversely, though, buying individual stocks can be a lot more rewarding. You can earn far greater returns from individual stocks than you'll ever find from a diversified mutual fund -- if you pick the right stocks.

So how should you pick?

Investing, like most other things, requires that you have a general philosophy about how to do things in order to avoid careless errors. Would you make a souffle without a recipe? Would you play cello in the London Philharmonic Orchestra without sheet music? Would you aim a shuffleboard disk without figuring out whether you're trying to knock off your own color or your opponent's? We hope not.

So before you dig deeper into some specialized investing strategies, you should first understand the various methods people use to analyze stocks. While investing is not nearly as difficult as these other challenges (especially the souffle), you certainly need a considered plan before investing your hard-earned savings.

Fundamental Analysis -- Buying a Business (Value, Growth, Income, GARP, Quality)

Many people rightly believe that when you buy a share of stock you are buying a proportional share in a business. As a consequence, to figure out how much the stock is worth, you should determine how much the business is worth. Investors generally do this by assessing the company's financials in terms of per-share values in order to calculate how much the proportional share of the business is worth. This is known as "fundamental" analysis by some, and most who use it view it as the only kind of rational stock analysis.

Although analyzing a business might seem like a straightforward activity, there are many flavors of fundamental analysis. Investors often create oppositions and subcategories in order to better understand their specific investing philosophy. In the end, most investors come up with an approach that is a blend of a number of different approaches. Many of the distinctions are more academic inventions than actual practical differences. For instance, value and growth have been codified by economists who study the stock market even though market practitioners do not find these labels to be quite as useful. In the following descriptions, we will focus on what most investors mean when they use these labels, although you always have to be careful to double-check what someone using them really means.

Value. A cynic, as the saying goes, is someone who knows the price of everything and the value of nothing. An investor's purpose, though, should be to know both the price and the value of a company's stock. The goal of the value investor is to purchase companies at a large discount to their intrinsic value -- what the business would be worth if it were sold tomorrow. In a sense, all investors are "value" investors, in that they want to buy a stock that is worth more than what they paid. Typically, those who describe themselves as value investors are focused on the liquidation value of a company, or what it might be worth if all of its assets were sold tomorrow. However, value can be a very confusing label as the idea of intrinsic value is not specifically limited to the notion of liquidation value. Novices should understand that although most value investors believe in certain things, not all who use the word "value" mean the same thing.

The person viewed as providing the foundation for modern value investing is Benjamin Graham, whose 1934 book Security Analysis (co-written with David Dodd) is still widely used today. Other investors viewed as serious practitioners of the value approach include Sir John Templeton and Michael Price. These value investors tend to have very strict, absolute rules governing how they purchase a company's stock. These rules are usually based on relationships between the current market price of the company and certain business fundamentals. Examples include:

• Price-to-earnings ratios (P/E) below a certain absolute limit.
• Dividend yields above a certain absolute limit.
• Book value per share at a certain level relative to the share price.
• Total sales at a certain level relative to the company's market value.

Growth. Growth investing is the idea that you should buy stock in companies whose potential for growth in sales and earnings is excellent. Growth investors tend to focus more on the company's value as an ongoing concern. Many plan to hold these stocks for long periods of time, although this is not always the case. At a certain point, "growth" as a label is as dysfunctional as "value," given that very few people want to buy companies that are not growing. The concept of growth investing crystallized in the 1940s and the 1950s with the work of T. Rowe Price, who founded the mutual fund company of the same name, and Phil Fisher, who wrote one of the most significant investment books ever written, Common Stocks and Uncommon Profits.

Growth investors look at the underlying quality of the business and the rate at which it is growing in order to analyze whether to buy it. Excited by new companies, new industries, and new markets, growth investors normally buy companies that they believe are capable of increasing sales, earnings, and other important business metrics by a minimum amount each year. Growth is often discussed in opposition to value, but sometimes the lines between the two approaches become quite fuzzy in practice.

Income. Although common stocks are widely purchased today by people who expect the shares to increase in value, there are still many people who buy stocks primarily because of the stream of dividends they generate. Called income investors, these individuals often entirely forgo companies whose shares have the possibility of capital appreciation in favor of high-yielding, dividend-paying companies in slow-growth industries. These investors focus on companies that pay high dividends, like utilities and real estate investment trusts (REITs), although many times they may invest in companies undergoing significant business problems whose share prices have sunk so low that the dividend yield is consequently very high.

GARP. GARP, aside from being the name of the title character in John Irving's The World According to Garp, is an acronym for growth at a reasonable price. The world according to GARP investors combines the value and growth approaches and adds a numerical slant. Practitioners look for companies with solid growth prospects and current share prices that do not reflect the intrinsic value of the business, getting a "double play" as earnings increase and the price-to-earnings (P/E) ratios at which those earnings are valued increase as well. Former Fidelity fund manager Peter Lynch is GARP's most famous practitioner.

One of the most common GARP approaches is to buy stocks when the P/E ratio is lower than the rate at which earnings per share can grow in the future. As the company's earnings per share grow, the P/E of the company will fall if the share price remains constant. Since fast-growing companies normally can sustain high P/Es, the GARP investor is buying a company that will be cheap tomorrow if the growth occurs as expected. If the growth does not come, however, the GARP investor's perceived bargain can disappear very quickly.

Because GARP presents so many opportunities to focus just on numbers instead of looking at the business, many GARP approaches, like the nearly ubiquitous PEG ratio and Jim O'Shaughnessy's work in What Works on Wall Street, are really hybrids of fundamental analysis and another type of analysis -- quantitative analysis.

Quality. Most investors today use a hybrid of value, growth, and GARP approaches. These investors are looking for high-quality businesses selling for "reasonable" prices. Although they do not have any shorthand rules for what kind of numerical relationships there should be between the share price and business fundamentals, they do share a similar philosophy of looking at the company's valuation and at the inherent quality of the company -- measured both quantitatively by concepts like return on equity (ROE) and qualitatively by the competence of management. Many of them describe themselves as value investors, although they concentrate much more on the value of the company as an ongoing concern rather than on liquidation value.

Warren Buffett of Berkshire Hathaway is probably the most famous practitioner of this approach. He studied under Benjamin Graham at Columbia Business School, but was eventually swayed by his partner, Charlie Munger, to also pay attention to Phil Fisher's message of growth and quality.

Arguments against fundamental analysis. Those who do not use fundamental analysis have two major arguments against it. The first is that they believe that this type of investing is based on exactly the kind of information that all major participants in publicly traded markets already know, so therefore it can provide no real advantage. If you cannot get a leg up by doing all of this fundamental work understanding the business, why bother? The second is that much of the fundamental information is "fuzzy" or "squishy," meaning that it is often up to the person looking at it to interpret its significance. Although gifted individuals can succeed, this group reasons, the average person would be better served by not paying attention to this kind of information.

Quantitative Analysis -- Buying the Numbers

Pure quantitative analysts look only at numbers with almost no regard for the underlying business. The more you find yourself talking about numbers, the more likely you are to be using a purely quantitative approach. Although even fundamental analysis requires some numerical inputs, the primary concern is always the underlying business, focusing on things like management's expertise, the competitive environment, the market potential for new products, and the like. Quantitative analysts view these things as subjective judgments, and instead focus on the incontrovertible objective data that can be analyzed.

One of the principal minds behind fundamental analysis, Benjamin Graham, was also one of the original proponents of this trend. While running the Graham-Newman partnership, Graham exhorted his analysts to never talk to management when analyzing a company and focus completely on the numbers, as management could always lead one astray.

In recent years as computers have been used to do a lot of number-crunching, many "quants," as they like to call themselves, have gone completely native and will buy and sell companies based on a purely quantitative basis, without regard for the actual business or the current valuation. That's a radical departure from fundamental analysis. "Quants" will often mix in ideas like a stock's relative strength, a measure of how well the stock has performed relative to the market as a whole. Many investors believe that if they just find the right kinds of numbers, they can always find winning investments. D.E. Shaw is one example of a firm that uses sophisticated mathematical algorithms to find minute price discrepancies in the markets. 

Company size. Some investors purposefully narrow their range of investments to companies of a certain size, measured either by market capitalization or by revenue. The most common way to do this is to break up companies by market capitalization and call them micro caps, small caps, mid caps, and large caps, with "cap" being short for "capitalization." Different size companies have shown different returns over time, with the returns being higher the smaller the company. Others believe that because a company's market capitalization is as much a factor of the market's excitement about the company as it is the size, revenues are a much better way to break up the company universe. Although there is no set breakdown used by all investors, most distinctions look something like this:

Micro cap -- $250 million or less.

Small cap -- $250 million to $2 billion.

Mid cap -- $2 billion to $10 billion.

Large cap -- $10 billion or more.

The majority of publicly traded companies fall in the micro or small categories. Some statisticians believe that the perceived outperformance of these smaller companies may have more to do with "survivor" bias than actual superiority, as many of the databases used to do this performance testing routinely expunged bankrupt companies until pretty recently. Since smaller companies have higher rates of bankruptcy, excluding this factor helps "juice" up their historical returns as a result. However, this factor is still being debated.

Screen-based investing. Many quantitative analysts use "screens" to select their investments, meaning that they use a number of quantitative criteria and examine only the companies that meet these criteria. As the use of computers has become widespread, this approach has increased in popularity because it is easy to do. Screens can look at any number of factors about a company's business or its stock over many time periods.

While some investors use screens to generate ideas and then apply fundamental analysis to assess those specific ideas, others view screens as "mechanical models" and buy and sell based purely on what comes up on the screen. These investors claim that using the screens removes emotions from the investing process. (Those who do not use screens would counter that using a screen mechanically also removes most of the intelligence from the process.) One of the proponents of using screens as a starting point is Eric Ryback, and one of the most famous advocates of screens as a mechanical system is James O'Shaughnessy.

Momentum. Momentum investors look for companies that are not just doing well, but that are flying high enough to get nosebleeds. "Well" is defined as either relative to what investors were expecting or relative to all public companies as a whole. Momentum companies often routinely beat analyst estimates for earnings per share or revenue, or have high quarterly and annual earnings and sales growth relative to all other companies, particularly when the rate of this growth is increasing every quarter. This kind of growth is viewed as a sign that things are really, really good for the company. High relative strength is often a category in momentum screens, as these investors want to buy stocks that have outperformed all other stocks over the past few months.

CANSLIM. CANSLIM is a system pioneered by William J. O'Neil that is a hybrid of quantitative analysis and technical analysis, detailed in his book How to Make Money in Stocks. According to Investor's Business Daily, O'Neil's newspaper, the "C'' and ''A'' of the CANSLIM formula tell investors to look for companies with accelerating Current and Annual earnings. The ''N'' stands for New, as in new products, new markets, or new management. ''S'' stands for Small capitalization and big volume demand. ''L'' tells investors to figure out whether the company is a Leader or Laggard. ''I'' has them look for Institutional sponsorship, and ''M'' concentrates on the direction of the Market. O'Neil originally created Investor's Business Daily to be a tool that investors could use to practice CANSLIM, although it has become a business publication widely read by all types of investors. CANSLIM includes components of the next type of analysis --technical analysis.

Arguments against quantitative analysis. Because quantitative analysis hinges on screens that anyone can use, as computing horsepower becomes cheaper and cheaper many of the pricing inefficiencies quantitative analysis finds are wiped out soon after they are discovered. If a particular screen has generated 40% returns per year and becomes widely known, and if lots of money flows into the companies that the screen identifies, the returns will start to suffer.

As "fuzzy" as fundamental analysis might be, there are often times that knowing even a little about the company you are buying can help a lot. For instance, if you are using a high-relative-strength screen, you should always check and see if the companies you find have risen in price because of a merger or an acquisition. If this is the case, then the price will probably stay right where it is, even if the "screen" you used to pick this company has generated high annual returns in the past.

Technical Analysis -- Buying the Chart

What would you do if you truly believed that all information about publicly traded companies was efficiently distributed and that nobody could get an edge on anyone else by either understanding the business or analyzing the numbers? You might consider simply giving up on beating the market's returns by buying an index fund. Some investors have taken an alternate route, attempting to create a set of tools that might tell them what other investors thought about a stock at any given time, particularly looking for the footprints of large institutional investors that tend to cause the most extreme price changes. Investors who focus on this kind of psychological information call themselves technical analysts and believe that charts can sometimes provide insight into the psychology surrounding a stock. Although there are plenty of pure chartists, some investors use charts just to time investments after looking at them from a fundamental or quantitative perspective.

There is no set of clearly defined approaches to technical analysis, but there are a number of different tools. The most important indicators seem to be specific chart formations that show certain price movements at times when trading volume is at a certain level. The most common kinds of charts include point and figure charts, logarithmic charts, and Japanese candlesticks, to name a few.

Arguments against technical analysis. Technical analysis assumes that certain chart formations can indicate market psychology about either an individual stock or the market as a whole at key points. However, most of the statistical work done by academics to determine whether the chart patterns are actually predictive has been inconclusive at best, as detailed in Burton Malkiel's A Random Walk Down Wall Street. Much of the faith in technical analysis hinges on anecdotal experience, not any kind of long-term statistical evidence, unlike certain quantitative and fundamental methodologies that have been shown in many instances to be pretty predictive. Critics of technical analysis feel that it is basically as useful as reading tea leaves.

Trading -- Doing What Works

As trading commissions have fallen and more and more people have gained access to instantaneous data about stock prices, trading has become more and more popular, and very likely much too popular, somewhat like Madonna or Beanie Babies. Traders normally use a hodgepodge of fundamental, quantitative, and technical techniques with a short-term orientation. Trading tends to be a highly charged experience where one looks to make a few percentage points from each trade. Although widespread, trading is far from a systematized, philosophical body of knowledge that is easily explained in a few paragraphs.

Many novice investors, lulled by the apparently easy casino-like gains possible in trading, tend to lose a lot of money before they realize that when there are thousands of other traders out there looking for the same things, it is often those who are fastest, have the most experience, and own the best equipment that make money, and that's normally not the people just starting out. All traders emphasize that successful trading requires careful attention, discipline, and a lot of work, so anyone who thinks that he can use a Quotrek in between meetings to make a fortune might want to reconsider.

Arguments against trading. Trading is clearly a time-consuming adventure. Although there are a number of very famous and successful traders, many individuals ignore the fact that these traders are well equipped to trade and have all day to do so. Given the time and effort most successful traders put into their trading, the potential for amateurs to reap the same rewards with less effort and fewer resources is very low. With so much money competing in the one-day to one-year investment time frame, an individual with a minimal amount of time will probably be more successful finding businesses to own for the long term and not trying to engage in high-octane, almost gambling-like behavior.