Smart Investments on a Small Budget

A common myth about investing is that a big fat bank account is required just to get started. In reality, the process of building a solid portfolio can begin with a few thousand—or even a few hundred—dollars.

Here is some specific advice, organized by the amount you may have available to begin your investments, and covers some smart moves low-rollers can make to kickstart a savings and investment program.

Four Strategies to Start

Whether you’re planning to invest a little or quite a lot, in safe bets or high-risk gambles, these steps should help get your plans off on the right track.

Automate Savings

The diligence to dependably set aside a certain amount in savings every month will reap the rewards in the long run. If you lack the willpower or organization to do that alone, technological help is available via smartphone and computer applications.

The apps that make saving the least painless are those that round up your purchases and other transactions to the nearest dollar and put aside the “savings.” Acorns, Qapital, and Chime all round up transactions from your credit and/or debit cards and return the money to you in savings-friendly vehicles.

Acorns puts the money into one of several low-cost ETF portfolios; these are good vehicles for small savers, as we cover below. Qapital adds the option to automatically transfer money, based on the rules you choose. The money in the FDIC- insured Qapital account is held with one of their partner banks. Chime, an online bank and an app, offers a savings account that automatically sets aside a percentage of every paycheck you deposit, among other features.

Short of using these apps, check with your bank about its own apps and other ways you might automatically transfer funds from non-savings accounts to those better suited to savings and investment.

Deal With Your Debts

Before you begin to save, analyze what it’s costing you to carry debts you already have, and consider how rapidly you might discharge those. After all, high-interest credit cards can carry rates of 20% or more, and some student loans have interest rates over 10%. Those rates are higher than the average annual earnings of 9.2% or so that the U.S. stock market has returned over time.

If you’re carrying a lot of high-interest debt, it makes more sense to pay off at least some of it before making investments. While you can’t predict the exact return on most of your investments, you can be certain that retiring debt with a 20% interest rate one year early is as good as earning a 20% return on your money.

Consider Your Retirement

A key goal of saving and investing, even at an early age, should be to help ensure that you have enough money after you stop working. One priority in your planning should be to take full advantage of the inducements dangled by governments and employers to encourage retirement security. If your company offers a 401(k) retirement plan, don’t overlook it. That’s doubly the case if your company matches part or all of your contribution to the plan.

For example, if you have an income of $50,000 and contribute $3,000, or 6% of your income, to your 401(k) plan, your employer might match that by contributing an additional $3,000. A less generous employer might contribute up to only 3%, adding $1,500 to your $3,000 contribution. You’ll always want to invest enough to get the total amount of your employer’s match. Not to do so is essentially to throw money away.

Notably, 401(k)s and other retirement vehicles are also robust investments because of their favorable tax treatment. Many allow you to contribute with pretax dollars, which reduces your tax burden in the year you contribute. With others, such as Roth 401(k)s and IRAs, you contribute with after-tax income but withdraw the funds without tax, which can reduce your tax hit on the year of withdrawal.

And remember, if your money has grown for many years, there will be much more than you initially contributed so that those tax-free withdrawals will be worth it. In both scenarios, the earnings on what you invest accumulate tax-free within the account.

Invest Your Tax Refund

If you find it hard to save money throughout the year, consider setting aside part or all of your tax refund as a way to get started with investing. It’s one of the few moments in the year where you’re likely to get a windfall that you weren’t already counting on.

Recommendations by Investment Amount

Before the specifics, a few general points are worth underlining. No matter your net worth, it’s essential to minimize your investment fees, whether on a checking account, a mutual fund, or any other financial product.

That’s especially the case when you’re investing on a budget because fixed fees will take a more significant chunk of your savings. A $100 annual fee on a $1 million account is trivial, but a $100 fee on a $5,000 account is a hefty financial hit. Carefully choose the costs associated with where you put your money, especially if you’re investing on a budget,

You’ll also need to weigh likely returns on your investments against the level of risk you’re comfortable with taking, and that’s appropriate to your age. In general, your portfolio should become steadily less risky as you approach retirement.

How To Invest $500

It may seem like a small amount to work with, but $500 can go farther than you might think in starting an investment portfolio. If you prefer to play it safe, park your sum in a certificate of deposit (CD) from a bank or other lender or use it to buy short-term Treasury bills, which can be purchased through an online broker. The growth potential with both options is limited, but the risks are virtually zero. It’s a way to earn a little on your money until your nest egg grows to the point where other options are available.

For those who are comfortable with a little more risk, many choices are available, even for small investors, that promise greater returns than CDs or T-bills. One is a dividend reinvestment plan (DRIP). You buy shares of stock, and your dividends are automatically used to purchase additional shares or even fractional shares. This is an excellent choice for small investors because the shares are purchased at a discount without paying a sales commission to a broker. Buying a single share of a company’s stock will get you started.

How To Invest in ETFs

Another option for starting small is an exchange-traded fund (ETF), most of which require no minimum investment. Unlike most mutual funds, ETFs typically feature a passive management structure, which translates to lower ongoing costs. However, among other drawbacks to ETFs, you must pay fees on their transactions. To lessen these charges, consider using a discount broker that does not charge a commission—or plan to invest less often, perhaps investing larger amounts quarterly rather than making small monthly purchases.

How To Invest in Peer-to-Peer Lending and Crowdfunding

Toward the top of the risk continuum, there’s investing in peer-to-peer lending. Crowdfunders connect investors with money to lend and entrepreneurs trying to fund new ventures. As the loans are repaid, investors receive a share of the interest in proportion to the amount they have invested. Some crowdfunding platforms have high minimums to open an account, such as the $25 one for Prosper, but others may require a lot more money.

Crowdfunding offers high risk, as many new ventures fail, but also the prospect of higher earnings. Generally, annual returns fall in the 5% to 8% range, but they can climb to 30% or more for investors who are willing to take a big risk or are simply lucky enough to back an especially profitable newcomer.

How To Invest $1,000

If you’re saving for retirement or to purchase a home that’s some years away, you might look for a low-fee target-date fund with a relatively low minimum investment, typically of $1,000 or so. With this type of fund, you choose the target date. The investments in the fund are automatically adjusted over time, with the overall mix moving from riskier to safer as your target date gets closer.

Why is this important? When you’re just starting out, you have time. You can make riskier investments that might earn higher returns. However, as you near your target date, especially if that’s your retirement date, you want to protect yourself from sudden losses that can derail your plans.

With that $1,000, you also could consider purchasing individual stock shares, which come with higher risk but can generate higher returns. Investing in individual stocks that pay dividends is a smart strategy. You will have the option of receiving the dividends as cash payouts or reinvesting them in additional shares.

How To Invest $3,000

This investment level allows access to additional options, including more mutual funds. While some funds require a minimum investment of $1,000 or less, a larger sum is more common, such as the $3,000 required by Vanguard for most of its funds.

Among the many fund types, consider looking first to an index fund, a type of mutual fund that tracks a specific market index, such as the Standard & Poor 500 or the Dow Jones Industrials, and offers relatively low fees. Like ETFs, index funds are passively managed, which means a lower expense ratio, which moderates fees. 

The goal of an index fund is to at least match the performance of the index. It also gives you broad exposure to a number of asset classes.

How To Invest $5,000

The possibilities become broader at the $5,000 level, including more options for investing in real estate. While $5,000 isn’t enough to purchase property or even to make a down payment, it’s enough to get a stake in real estate in several other ways.

The first is to invest in a real estate investment trust (REIT). This is a corporation that owns a group of properties or mortgages that produce a continuous stream of income. As a REIT investor, you’re entitled to a share of the income generated by the underlying properties. REITs are required by law to pay 90% of their income to investors as dividends annually. REITs can be traded or nontraded, with the latter carrying much higher upfront fees.

Real estate crowdfunding is a second option. Real estate crowdfunding platforms are now permitted to accept investments from both accredited and nonaccredited investors. Many platforms set the minimum investment for gaining entry to private real estate deals at $5,000.

Investors can also choose between debt and equity investments in commercial and residential properties, depending on the platform. Returns for debt investments range from 8% to 12% a year. Equity investments can see higher yields if the value of the property increases. Keep in mind that this type of investment can carry more risks than more traditional investments.

The Bottom Line

Investing can get complicated, but the basics are simple. Maximize the amount you save and your employer’s contributions. Minimize taxes and fees. Make smart choices with your limited resources. That said, building a portfolio can also raise such complexities as to how best to balance the risk of some investments against their potential returns. Consider getting help.

Given the technology and the fierce competition for your investments, more resources than ever are available. Options include roboadvisors, virtual assistants that can help you create a balanced portfolio at a low price, and fee-only financial advisors who do not depend on income from commissions on the products they sell you. The hardest part of investing is getting started, but the sooner you do so, the more you should make. It’s as simple as that.