As the media frenzy around the debt ceiling talks continues to raise the hackles of even the most self-possessed investors, the lure of finding the so-called "perfect" investment has become increasingly popular. Investors look to find that special investment that will protect them from the markets' fluctuations, while still providing growth opportunities. Financial experts are quick to offer an opinion to get you to buy one product over another, but the pursuit of finding the perfect investment resembles the search for the pot of gold at the end of the rainbow.
Focusing on finding the perfect investment could have a far larger effect on your retirement security.
First, it takes your focus off building a nest egg over an extended period and instead focuses you on the short term, which makes it more likely you'll miss two important wealth building strategies: compounding and dollar-cost averaging.
Compounding works by adding growth onto past growth (i.e. invest $1,000, earn 8 percent per year, and that $1,000 becomes $1,260 at the end of three years). Dollar-cost averaging enables you to smooth out the ups and downs of the market by buying more shares when the market is decreasing, and fewer shares as the market increases (assuming a constant investment amount).
Second, it makes investing hard. To stay on top of the game, you need to be constantly looking for the next investment, get in before it gets too hot, and get out before it starts to drop. By doing this, you've turned investing into a chasing-your-tail situation and added needless complexity to your life. Granted, for some, this part of investing is enjoyable. For most, however, the constant attention needed to achieve success with this method is daunting and unattainable. By looking for the perfect investment, you've most likely missed the growth benefits by the time you've invested.
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Here are a few tips on how to avoid falling into the "perfect investment" trap:
Establish a savings and investment goal. If you don't have a goal, how will you know if your investments will get you to where you want to be in retirement?
Stop thinking about the perfect investment. Instead, develop a plan that focuses on long-term wealth creation. This plan should account for your risk tolerance (how much are you willing to lose in the short term for potential higher growth in the long term), time horizon (the length of time until you'll start using the funds), and goals for the account.
Don't try to control everything. One of the reasons the 401(k) is popular is because the contributions are made automatically and then invested based on previous selections. You don't have to do something with each investment. Many investment retirement accounts (IRAs) will let you make automatic investments as well. All you have to do is review your allocation a couple times a year to see if you should make any changes.
Determine if you want to invest yourself or hire someone. If you decide to go it alone, make sure that you are committed to doing the research necessary to achieve your goals. Choose funds that have a solid record and stick to their objective. If you decide to hire someone, make sure you know what services they are going to provide and how much you are going to pay. Ask them to show the commissions or fees that they would likely earn in the first year of your relationship.
Focus on increasing your contributions. By far the most important thing you can do to prepare for retirement is to save—and then save some more.
The next time you hear or read about the perfect investment, even when it seems like the world maybe turning upside down because of the latest news story, don't react immediately. Instead of thinking about how you can get your hands on it, look to see whether it fits within your strategy, not someone else's.
Scott Holsopple is the president and CEO of Smart401k, offering easy-to-use, cost effective 401(k) advice and solutions for the every-day investor. His advice has been featured on various news outlets including FOX Business, USA Today and The Wall Street Journal. Keep tabs on Scott on Twitter and Facebook.