Yet some people put their money into stocks before they’re ready, warns certified financial planner Douglas Boneparth.
To achieve the benefits of long-term investing, Boneparth said, you should take these three steps first.
“If you can do all of these things, you’re going to be in a fantastic spot to invest your money and take on risk,” said Boneparth, president of Bone Fide Wealth in New York and a member of CNBC’s Advisor Council.
1. Establish goals
Before you put your money in the market, it’s essential to articulate what you’re trying to achieve, Boneparth said.
That’s mainly because different goals have different time horizons. You may want to buy a house, for example, long before you hope to retire.
And your investment timeline will have a huge impact on how you allocate your money.
“When you have time on your side, you can take more risk,” Boneparth said.
For example, some people may be comfortable investing 80% or more of their money in stocks for retirement, whereas they’d want to split their savings evenly between stocks and bonds for a home purchase in seven years.
For any goals you hope to reach in under four years, “cash is going to be what I’m looking at there,” Boneparth said. Money for short-term goals should not be in the market.
“It’s usually not worth the risk of losing that money you’re going to need pretty soon,” he said.
Of course, identifying why you’re investing will also help you know how much you need to put away. A return to school, for instance, will likely be a smaller expense than retirement.
2. Understand your budget and behavior
Research shows that investors who keep their money in the market and save consistently are the most rewarded.
To be able to do this, you’ll want to make sure you have a good handle on your income, expenses and spending, Boneparth said.
That way, you’ll know what you can realistically afford to invest on a regular basis, he said.
Although you want to be able to invest over long periods, it’s only natural if you slip up along the way, Boneparth said, and need to temporarily pause or scale back contributions.
“Life is fickle; things change all the time,” he said. “Give yourself some grace.
“Take a year to work on these things.”
3. Build an emergency fund
If you put your money in the market before you have a sufficient emergency fund, you risk disrupting your investing if you’re hit with a job loss or unexpected expense, Boneparth said.
Most experts agree that you want three to six months of your expenses salted away, but Boneparth likes to have an even bigger cushion.
“I’m a traumatized, geriatric millennial,” he said. “I like six to nine months.”