2 things everyone should have before they start investing: a budget and a savings account
- Investing is a great way to build wealth, but first you need to make sure you can afford it.
- As a former financial advisor, I saw many investors sell out of the market early because they needed money for an "emergency" expense.
- Establishing a separate savings account and making room in your budget for investing will ensure you won't have to deviate from your long-term plan.
- For more stories visit Business Insider South Africa.
Since Covid-19 started, more and more individuals have entered the stock market for the first time. With stock prices plummeting, it was a perfect opportunity to buy shares of companies for a fraction of the price. If you've also been considering jumping into the market, consider first if you can actually afford to invest.
If you have extra cash laying around or just know you need to get started, investing now may seem like a no-brainer.
However, there are two things you should make sure you have figured out beforehand: a way for reduced spending money to fit into your budget and a healthy emergency fund to ensure you won't have to sell out of your investments prematurely. Let's break these down.
1. Fit investing into your budget
Investing always sounds like a great idea, until you realize that any money you put into investing is money you take away from being able to spend on other things such as food, travel, or entertainment.
If you are already living paycheck-to-paycheck or continuously have credit-card debt, then you need to take a step back and take a hard look at where your money is going and if it actually makes sense to invest.
By first creating a budget and then building in a line for what will be invested, you will prevent any surprises when it comes to the month's cash flow. If you don't adjust your spending to account for the amount that is going towards investing, it's likely you will fall back on credit cards or have to sell out of said investments later down the line in order to cover a shortage — neither of which are ideal situations.
2. Keep a separate emergency fund
When I worked as a financial advisor, clients would come in with an "emergency," such as a car breaking down and needing to purchase a new one, but had no emergency fund. They would end up in my office, asking to sell out of their investments so they could free up cash to put towards their emergency. Selling out of investments early results in a penalty and sometimes a taxable event, and also prevents that money from being able to grow more with compound interest.
If that client had built up an emergency fund, selling out of investments wouldn't have had to be the only option. They could have used that emergency fund to pay for the "emergency," without sacrificing their long-term financial goals.
Before investing, make sure you have at least three to six months of expenses in an easily accessible savings account. This will allow you some breathing space if an unexpected cost arises, and you won't have to immediately sell out of your investments to cover the cost.
Making sure you have accounted for investing in your budget plus making sure you have enough savings to cover an emergency will help ensure that investing is a stress-free experience that you can stick with long term.
Katie Oelker is a financial coach, personal finance writer, and member of BI's Money Council.
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