27 years old, $2000 Roth IRA

[Guest rickymac]

I am a single 27 year old who invested $2000 in a Roth IRA last year thru Chase Bank. I opted for an aggressive portfolio of about 8 on a scale of 1 -10.

I just received a recent statement, and it has dropped to $1,563 dollars. I'd like to contribute the max of $3000 this year, but seeing my recent statement is making me think twice. Any advice would be greatly appreciated. Thanks...

[John G]

Welcome to the world of forward thinking adults. This year you paid $437 tuition for a short course entitled "markets don't always to up". I guess that is just in-state tuition for a 1 credit course! Your 25% down draft is not uncommon as 2002 was a terrible year for most people.

Lesson 1 was markets go up and down. But the useful information you seek is that on average in the US, markets go up 7 to 9 years in each decade. The good years not only outnumber the bad perhaps 5:1, the good years are more positive then the bad years are down. I teach about investing in JA classes and usually have my high school seniors look at the last 80 years from a chart on of the brokers produced.

Over the long haul (think multiple decades) you should expect a return of between 8% and 14% for investments. The eight percent is heavily weighted towards low risk bonds. The 14% is about the long term average for 100% growth stocks. A portfolio of more conservative stocks (including electric utilities, railroads, mining, and real estate trusts) would probably average closer to 10%. You can demonstrate this by looking at the performance of mutual funds with these types of holdings that have existed for more than 4 decades. Its not perfect data, but representative of long term performance. The US economy has a natural tendency (per Adam Smith's insight when our nation was created) to be efficient, reward hard work, reward useful innovations/inventions, and grow... and over the long haul this is reflected in the stock market which backs companies... rather than the bond market which is based upon IOUs and risk of default.

Should you plunk $3,000 into a Roth this year? First some questions: (1) Do you have cash reserves to fall back upon if you lose your job or have some other financial/health set back? (2) Can you forget about tapping into this money for the next 20 years? (3) Do you have a modest level of discipline to invest the funds? (4) Do you have minimal (preferably zero) high interest rate debt from things like credit cards? (ignor student loans and mortgages) and (5) You have other income that can be earmarked to other possible purchases like the downpayment on a new home? If you have answered yes to all of these, then I would recommend that you plunk some extra cash into a Roth.

In what should you invest? The wise guy's answer is "the future", which is what stock market investing is all about. I expect the future to be better than today. There have always been terrorists and assassins.... I am talking about real progress for the common person: medical advances, electronics, transportation, manufacturing, and communications. A practical answer is a widely based no load stock mutual fund or no load index fund.

Can I tell you the contribution for this year won't go down? No. There are no guarantees in investing. But if you sit on the sidelines every year you will miss the chance to grow a significant nest egg.

I helped my neice start a Roth about 6 years ago. I gave her 1000 and she added another 1000. At the end of that first year, her stock mutual fund was up 28%. The next year it was up 32%..... and I did not realize that she thought this was normal performance. Well after six great years and three dog years, she is a little wiser and still on plan because she is averaging just over 10% annual.

If you stick to a regular investment plan using Roth IRAs and contribute the $3,000 each year you are capable of building a nest egg of more than one million dollars. No smoke, no mirrors, just a great tax shelter for the average taxpayer called Roth.

[Guest rickymac]

Thank you, this was exactly the type of information I was looking for ... Much appreciated...

[John G]

Good, it is always hard to know if you hit the mark.

Think of the next few years as a period when you are going to learn a lot about finances and investing. Actual account performance would be nice, but making good decisions over the next few decades is more important. You may want to subscribe to Kiplinger Financial as a good overall read for someone at the start of their career. The March issue of Consumer Reports does a decent job of explain retirement plans and identifying decent mutual funds.

Good luck with you choices. Post again if you have other questions... such as you don't understand some of the jargon.