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Investing in the financial markets might sound like one of the scariest parts of managing your finances, but it’s also potentially the most rewarding. While major declines in the market can be frightening, investing is one of the few ways to outpace inflation and grow your purchasing power over time. A savings account just won’t build wealth.

That makes investing one of the best things that Americans of any age can do to get on the road toward financial well-being.

Here’s how you can start investing and enjoy the returns that can build you a better financial future.

How to start investing: 6 things to do

1. Look into retirement accounts

For many people, the best place to begin is your employer-sponsored retirement plan – likely a 401(k) – offered through your employer’s benefits package.

In a 401(k) plan, the money you contribute each paycheck will grow tax-free until you begin withdrawals upon reaching retirement age. Many employers even offer matching contributions up to a certain percentage for employees who participate in their sponsored plans.

These plans have other benefits, too, depending on which type of 401(k) plan you choose:

  • A traditional 401(k) allows you to deduct your contributions from your paycheck so that you don’t pay taxes on it today, only when you withdraw the money later.
  • A Roth 401(k) allows you to withdraw your money tax-free – after years of gains – but you have to pay tax on contributions.

Regardless of which option you choose, here are all the details on 401(k) plans.

Bankrate’s 401(k) calculator will also show you how much your money can grow throughout your career.

The logistics of a 401(k) can be confusing, especially for recent grads or those who have never contributed. Look to your employer for guidance. Your plan’s administrator – which is sometimes a big broker such as Fidelity, Charles Schwab or Vanguard – may offer tools and planning resources, helping you educate yourself on good investing practices and the options available in the 401(k) plan.

If your employer doesn’t offer a 401(k) plan, you’re a non-traditional worker, or you simply want to contribute more, consider opening a traditional IRA or Roth IRA.

  • A traditional IRA is similar to a 401(k): You put money in pre-tax, let it grow over time and pay taxes when you withdraw it in retirement.
  • With a Roth IRA, on the other hand, you invest after-tax income and then the money grows tax-free and is not taxed upon withdrawal.

There are also specialized retirement accounts for self-employed workers.

The IRS limits the amount you can add to each of these accounts annually, so be sure to stay within these rules:

  • For 2024, the contribution limit is set at $23,000 for 401(k) accounts (before employer match) and $7,000 for an IRA.
  • Older workers (those over age 50) can add an additional $7,500 to a 401(k) as a catch-up contribution, while an IRA allows an additional $1,000 contribution.

2. Use investment funds to reduce risk

Risk tolerance is one of the first things you should consider when you start investing. When markets decline as they did in 2022, many investors flee. But long-term investors often see such downturns as a chance to buy stocks at a discounted price. Investors who can weather such downturns may enjoy the market’s average annual return – about 10 percent historically. But you have to be able to stay in the market when things get rough.

Some people want a quick score in the stock market without experiencing any downside, but the market just doesn’t work like that. You must endure down periods in order to enjoy the gains.

To reduce your risk as a long-term investor, it all comes down to diversification. You can be more aggressive in your allocation to stocks when you’re young and your withdrawal date is distant. As you inch closer to retirement or the date you’re looking to withdraw from your accounts, start scaling back your risk. Your diversification should grow more conservative over time so you don’t risk major losses in a market downturn.

Investors can get a diversified portfolio quickly and easily with an index fund. Instead of trying to actively pick stocks, an index fund passively owns all the stocks in an index. By owning a wide swath of companies, investors avoid the risk of investing in one or two individual stocks, though they won’t eliminate all the risk that comes from stock investing. Index funds are a staple choice in 401(k) plans, so you should have no trouble finding one in yours.

Another common passive fund type that can reduce your risk aversion and make your investment journey easier is a target-date fund. These “set it and forget it” funds automatically adjust your assets to a more conservative mix as you approach retirement. Typically, they move from a higher concentration in stocks to a more bond-focused portfolio as you approach your date.

3. Understand your investment options

A brokerage account gives you many new investment opportunities, including the following:

Stocks

Stocks give you a fractional ownership stake in a business, and they’re one of the best ways to build long-term wealth for you and your family. But in the short term, they can be tremendously volatile, so you need to plan to hold them for at least three to five years — the longer, the better. Here’s how stocks work and how you can make serious money by being a stock investor.

Bonds

Investors use bonds to create a reliable income stream, and by owning bonds you’ll generate less risky but lower gains than you would with stocks. Bonds tend to fluctuate much less than stocks, making them ideal for balancing out a portfolio of high-octane stocks. Here’s how bonds work and how to use the many different types of bonds to power your portfolio.

Mutual funds

A mutual fund is a collection of investments, typically stocks or bonds but sometimes both, that is owned by many different investors. You buy shares in the fund, which is often diversified among many investments, reducing your risk and potentially even increasing your returns. A mutual fund is a great way for inexperienced investors to earn significant returns in the market.

Exchange-traded funds (ETFs)

ETFs are much like mutual funds, giving you the ability to invest in stocks, bonds or other assets, but they offer a few benefits on mutual funds. ETFs tend to have very low management fees, making them cheaper to own than mutual funds. Plus, you can trade ETFs during the day like a stock. And of course, ETFs can deliver significant returns to even novice investors.

4. Balance long-term and short-term investments

Your time frame can change which types of accounts are most effective for you.

If you’re focusing on short-term investments, those you can access within the next five years, money market accounts, high-yield savings accounts and certificates of deposit will be the most useful. These accounts are insured by the FDIC, so your money is going to be there when you need it. Your return won’t usually be as high as long-term investments, but it’s safer in the short term.

It’s generally not a good idea to invest in the stock market on a short-term basis, because five years or less may not be enough time for the market to recover if there’s a downturn.

The stock market is an ideal vehicle for long-term investments, however, and can bring you great returns over time. Whether you’re saving for retirement, looking to buy a house in 10 years or preparing to pay your child’s college tuition, you have a variety of options – index funds, mutual funds and exchange-traded funds all offer stocks, bonds or both.

Getting started is easier than ever with the rise of online brokerage accounts designed to fit your personal needs. It’s never been cheaper to invest in stocks or funds, with brokers slashing commissions to zero and fund companies continuing to cut their management fees. You can even hire a robo-advisor for a very reasonable fee to pick the investments for you.

5. Don’t fall for easy mistakes

The first common mistake new investors make is being too involved. Research shows that actively traded funds usually underperform compared to passive funds. Your money will grow more and you’ll have peace of mind if you keep yourself from checking (or changing) your accounts more than a few times each year.

Another danger is failing to use your accounts as they’re intended. Retirement accounts such as 401(k) and IRA accounts offer tax and investing advantages but specifically for retirement. Use them for almost anything else, and you’re likely to get stuck with taxes and an additional penalty.

While you may be allowed to take out a loan from your 401(k), not only do you lose the gains that money could be earning, but you also must pay the loan back within five years (unless it’s used to purchase a home) or you’ll pay a 10 percent penalty on the outstanding balance. There are some exceptions to the 10 percent penalty, however.

Your retirement account is meant to be used for retirement, so if you’re using it for another purpose, you’ll want to stop and ask yourself whether that expense is truly necessary.

6. Keep learning and saving

The good news is you’re already working on one of the best ways to get started: educating yourself. Take in all the reputable information you can find about investing, including books, online articles, experts on social media and even YouTube videos. There are great resources available to help you find the investing strategy and philosophy that’s right for you.

You can also seek out a financial advisor who will work with you to set financial goals and personalize your journey. As you search for an advisor, you want to look for one who is looking out for your best interest. Ask them questions about their recommendations, confirm that they are a fiduciary acting in your best interest and make sure you understand their payment plan, so you’re not hit by any hidden fees.

Generally, you’re going to have the least conflicts of interest from a fee-only fiduciary – one whom you pay, rather than being paid by the big financial companies.

Why investing is so important

Investing is the most effective way Americans can build their wealth and save for long-term goals like retirement. Or paying for college. Or buying a house. And the list goes on.

The sooner you begin investing, the sooner you can take advantage of compounding gains, allowing the money you put into your account to grow more rapidly over time. Your money earns money – without you doing anything. You’re looking for your investments to grow enough to not only keep up with inflation, but to actually outpace it, to ensure your future financial security. If your gains exceed inflation, you’ll grow your purchasing power over time.

How much money do I need to start investing?

There’s no rigid minimum when it comes to getting started with investing. You can begin your journey with any amount, even as little as $1, thanks to low or no-minimum brokerage accounts and the availability of fractional shares. However, before you start investing, it’s crucial to evaluate your financial situation, establish a solid emergency fund, and ensure your debt is manageable.

When it comes to retirement, the recommendation is to start as early as possible, even if it’s with small amounts, and aim to save around 10% to 15% of your income. For non-retirement investments, ensure you’re in a stable financial position and ready to handle the inherent risks of investing.

Bottom line

Many people are a little leery of investing, but if you learn the basics, a sensible approach can make you a lot of money over time. Starting to invest can be the single best decision of your financial life, helping set you up with a lifetime of financial security and a happy retirement, too.

— Bankrate’s Brian Baker contributed to an update of this story.