First Foray Into Investing – low cost index funds 4

As a newbie to the world of investing, it is hard to know where to start. There is so much jargon and you are left with much more questions than answers. Should I stick to Passive Investing or Active investing? If I chose active investing, what strategy should I use? What is the best online platform to open a stocks and shares ISA with? So many questions.

(Note: that all this happened before I penned my first post setting out my goals to achieve financial freedom).

As this was my first foray into investing, I did not want to go straight in by purchasing individual stocks. I needed a helping hand so to speak. So I decided to look at the debate on low cost index investing vs actively managed mutual funds. My researched showed that bar for a few funds and managers ( see my next post), low cost index investing always outperformed active funds. The main reason for this is fees.

Many actively managed funds are closet trackers, which means they mimic an index fund but charge you for the privilege of doing so. So the difference in returns for you and me as investors is that element of actively managed fees. Performance Fees charged by active fund managers absolutely destroy your returns over time so it was easy for me to make the decision to invest in low cost index funds to begin with.

The next step was to look for a low cost online platform as I wanted to keep fees to an absolute minimum. I came across a newish platform called Nutmeg and it was so easy to navigate, low cost and perfect for a millennial like myself. I won’t bore you with the details here but I wrote an article on Nutmeg which you can find here.

Nutmeg portfolio choices

Robo-advisors like Nutmeg give you a choice of 10 portfolios to chose from, with portfolio one being very conservative (invested mainly in bonds) and portfolio 10 being aggressive (invested in index funds across the world).

I opened an account with Nutmeg and invested £5,700 with them in October 2014. This was during the October market dip so it was perfect timing for me. Many say you can’t actually time the market but I just did, Ha! (even though I did this by accident).

Once the people at Nutmeg had allocated my money for me and the fund went live, I acted like any new investor would, checking my performance every 5 minutes. Thankfully, Nutmeg only updates your portfolio once a day so this helped me as I only checked my account once a day. Still way too much I know!

But checking my account often actually taught me a great lesson; the more you pay attention to the daily performance of your portfolio, the more nervous you become.

I always thought that I had a great temperament. My friends and work mates always say that I do not get flustered and I am always cool under pressure. But I can tell you one thing, when your hard earned money is on the table, it can be really nerve wrecking seeing your portfolio up one day by 1% and down the next by 2%.

I remember vividly the time around November and December last year where the markets kept dropping for a number of days. Because I checked my portfolio everyday, I kept seeing my performance in the red and thought this whole investing thing was a mistake and I should take my money out now. But thankfully I did not, and the Santa rally came and took my portfolio to new heights. At that point I made a promise to myself that I would only check my portfolio twice a month. At first it was hard but as time came to pass, it became easier. I now only check it once a month and I can tell you that it is much better for my heart! So the lesson learnt here is to not stay glued to your portfolio performance. Instead, only check your performance every month or so and it will certainly be good for you.

When I look back at this investment with Nutmeg, it will certainly be a one off occurrence. The problem I find with investing in index funds is that you are buying the whole index, you are buying stocks in all the companies listed in that index, whether they are overvalued or not. Buying overvalued stocks does not make sense to me. Thus, my focus as per my goals will be to buy individual stocks that pay dividends.

Power of Compounding in real life

But this Nutmeg investment is not a a waste. Far from it. I am going to treat this like a buy and forget investment. I am going to let the power of compounding work its magic.
Let’s say my investment of £5700 in this platform grows at 7% a year after all fees have been taken into account, two years after my investment when I am 25 years old I will have £6 525, when I am 30 years old I will have £9 152, when I am 40 it will be £18 005, when I’m 50 it will be £35 419 and when I hit 65 when most people retire my money will have grown to £97 722.

All this without adding an additional penny. I don’t want to get ahead of myself but the power of compounding is absolutely beautiful.

The Key to Start investing

Remember that the key to getting started is just that, getting started. If you don’t have much funds, that’s ok. Brokerage fees are cheap these days and you can start with as little as a few hundred pounds without worrying about commissions eating too much into your returns. Start by looking for a good online broker, for new investors I would recommend Hargreaves Lansdown. And then just do it. get your feet wet. Buy that first index fund, mutual fund or stock.  Hopefully my journey will make this process easier for you as it will show you how I went from investing in low cost index funds, to mutual funds to individual stocks.