An automatic investment plan is pretty much what it sounds like: It’s an account, app, or platform that enables you to make regular investments, automatically.
Automatic investment plans (sometimes called AIPs) can be an excellent way to save and invest steadily over time, because you can set up your plan in advance and then leave it more or less to run on its own — until your needs or goals require a change.
What Is an Automatic Investment Plan?
An automatic investment plan might include a workplace retirement plan like a 401(k), a robo advisor or automated portfolio, a dividend reinvestment plan, as well as other options. What these programs have in common is they give investors the ability to choose an amount they want deposited, the timing of the deposits (e.g. weekly, quarterly), and in many cases which types of investments to fund.
The rise of sophisticated technology and algorithms have helped make automatic investment plans more accessible and secure, as well as more customizable. Investors can direct money to be withdrawn from their paycheck or from a personal account on a biweekly basis, for example, and invested in a retirement portfolio. It’s part of the growing trend around automating your personal finances.
Types of Automatic Investment Plans
While using automatic investment plans for retirement is a common scenario, there are others — including the option to choose more- or less-automated types of investment products or preset portfolios.
Among the different types of automatic investment accounts, or accounts that can be funded automatically:
- Automatic transfers to a 401(k), 403(b), or personal IRA accounts
- Automatic transfers to a 529 college savings plan
- Using a payment app that rounds up certain transaction amounts and deposits the difference into an investment portfolio automatically
- A dividend-reinvestment plan (DRIP) which helps investors reinvest their cash dividends automatically
Types of Automated Investment Products
There are also different types of funds or automated portfolios (sometimes called robo advisors) which investors can use as part of an automatic investment plan.
- Target date funds can provide investors with a long-term retirement or college savings portfolio. These funds are typically based on an allocation of different asset classes that adjust automatically to become more conservative over time, until the person needs to withdraw the funds.
- A robo advisor, or automated portfolio, is a preset portfolio typically of low-cost exchange-traded funds (ETFs). Investors use an online platform to fill out a questionnaire about their preferences, goals, risk tolerance and time horizon. The securities and the allocation in each portfolio are generally fixed, but investors can typically choose from different portfolios that match their risk tolerance and time horizon.
How Does an Automatic Investment Plan Work?
The “automatic” part of an automatic investment plan can refer to the automated deposit of funds, usually on a regular schedule. But it’s not just a way to automate your savings. It can also refer to stock dividends being reinvested automatically, or automated mutual funds (like target-date funds), or robo portfolios, as noted above.
If you consider automated investing 101, the foundation of almost all automatic investment plans is the use of technology to ensure the regular deposit of funds in a portfolio that reflects an investor’s needs and goals. While some people might view these options as “hands-off” or “set it and forget it” — and they can simplify a number of investment choices for investors — using an AIP doesn’t mean your money is on autopilot.
Investors will always need to pay some attention to any kind of investment plan, but that said many AIPs do offer investors some advantages.
Benefits of an Automatic Investment Plan
Most brokerages and workplace plans offer some kind of automated options for investors these days. The reason being that behavioral research has repeatedly shown that investors are prone to make emotional choices under certain circumstances (for example, when the market is volatile).
Automated plans provide basic guardrails that can help keep investors on track, investing steadily over time, rather than reacting impulsively to trends or headlines and trying to time the market.
Dollar Cost Averaging
Another benefit of automated plans is that they are designed so that you invest the same amount at regular intervals. This strategy, known as dollar cost averaging, is important for a couple of reasons:
- Automating deposits may help build wealth over time, because you’re less likely to spend that money once it’s invested.
- Dollar cost averaging is the practice of investing consistently over time, whether the market is up or down, which can lower the average cost of your investments.
Time Savings
Another advantage of using an AIP is that it can save you time and energy, especially if researching or managing investments is not your strong suit.
Types of Investments to Automate
These days automatic investment plans are available for a range of goals. As discussed earlier, you can choose to automate your retirement savings, your personal investment portfolio in a taxable account, a 529 plan, stock dividends, and likely other options as well.
These kinds of AIPs can compliment other aspects of financial automation that you may already be using: from budgeting and saving to paying bills.
The financial landscape is evolving rapidly, as anyone who follows crypto or DeFi (decentralized finance) knows. The types of investments you can automate today will no doubt expand tomorrow.
Is Automated Financial Planning Right for You?
In general, automatic investment plans may work for people who want to be on top of their finances, but may not have the time or the inclination for detailed investment management.
In that way, the convenience and lower cost of most automated investment plans and robo platforms can help newer investors (or less involved investors) get started. Investors who aren’t comfortable with relying on technology may not want to invest using automated systems.
That said, automated investing isn’t a strategy for avoiding money management or financial planning completely. Most investors’ portfolios and financial plans include details or circumstances that require human insight or input. Estate planning, owning a small business, or prioritizing among multiple goals, for example, can get complicated quickly.
Although it can be simpler to automate some parts of the investing or financial planning process, a human advisor can help ensure that you aren’t missing anything. Also, investors who use automated portfolios have less control over their investments.
Fortunately, automation here can also work in your favor: You can set alerts to remind you when certain withdrawals are being made.
Starting an Automatic Investment Plan
Starting an automatic investment plan is pretty straightforward. You first want to identify the primary goal for using an automated platform.
- Do you want to save for retirement at work, or is this a personal retirement account?
- Do you want an automated investment portfolio that’s preset, like a robo advisor? Or do you want to set up your own portfolio?
- Do you own dividend stocks, and does it make sense to set up a dividend reinvestment plan?
- Then, as you explore a few different options, you want to consider the following:
- Is it a reputable platform, account, or app? Hint: Most online brokerages and financial firms offer a few automated options, so it may be possible to stay with your current provider.
- Is the platform easy to use?
- What are the fees?
Using an Automatic Investing Plan
Using an AIP is generally self-explanatory because generally these programs were created for investors who want a streamlined experience. Once your account is open, you typically set up a direct deposit of funds, and select the investments you want in your plan.
If you’re working with a financial advisor, they can help insure that the platform you choose will support the rest of your financial plan. If you’re flying solo, you can begin to do research into how your automatic investment plan works together with other goals.
This article originally appeared on SoFi.com and was syndicated by MediaFeed.org.
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Don’t think you’re ready to invest? This expert says think again
Do you suffer from investing inertia? Even though you know that investing in the markets may help achieve your financial goals and ultimately help you be more financially secure, you may have trouble figuring out just how and when to start.
That’s not unusual. For many people the thought of investing, especially during uncertain times and volatile markets, can put a dead stop to even the best intentions.
Manisha Thakor, Certified Financial Planner, Chartered Financial Analyst, Harvard MBA, and founder of the financial wellness consultancy MoneyZen, knows how this can happen.
Thakor has spent the past 25 years in a range of financial roles, all with an eye toward improving financial literacy and advocating for investors, particularly women. She is the author of two personal finance books and sits on the board of the National Endowment of Financial Education.
Here, she answers some of the most important questions regarding investing inertia. She shares her thoughts on why you should invest, and importantly, when you know you’re ready both financially and emotionally.
Related: What is a dividend?
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A: The art of investing is the ability to make decisions in the face of imperfect information. There are aspects about the overall markets that no one can know in advance. For example, what will happen to interest rates or when will the next market dip occur? This is also true for individual stocks and bonds. In fact, if someone did have perfect information about an individual security in advance, well, that could also be called insider trading!
Here’s the rub. It is precisely because we don’t have perfect information, because we are exposing our money to a degree of risk — well that’s what gives you the opportunity (but not the guarantee!) that your investments will grow faster than inflation. No risk, no return.
For many people, it’s extremely difficult to make a decision based on something they don’t know a lot about. They mistakenly think they “need to know it all” in terms of understanding the subtle nuances of investing before taking a step, thus keeping them paralyzed from making any decision at all.
Ironically, not making a decision actually is a decision when it comes to investing. Keeping your money in cash practically guarantees that your money will not keep up with inflation. Or said differently, doing nothing also exposes you to risk – the risk that your purchasing power will decline over time.
Interestingly, I’ve observed qualitatively that men seem to have an advantage when it comes to making decisions without full knowledge. Note, I want to be extremely clear that this does not mean the decisions are always good ones. In fact, a range of studies indicate that when women do invest, their investment returns tend to be slightly better than men’s.
What I’m talking about here is simply the propensity to “take the leap” into the market. A high comfort level with not “knowing it all” before making a move forward can also inform investment decisions. This is why we often see women, even those with plenty of savings, being more reluctant to invest than men.
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A: It’s usually a life event. Sometimes that life event can be as simple as having more money to invest. Perhaps you just got a new job with a higher salary, a different compensation structure, or maybe you received an inheritance. In my experience, men are particularly motivated by simply having the money to invest.
By contrast I’ve observed women with large savings still hold back. My unscientific hunch is that men are socialized to start talking about money and investing with each other earlier on in their lives, and that perceived financial fluency inspires them to take investment action.
When women are on the diving board, it’s often something bigger than themselves that helps them jump in. Getting married, getting divorced, having a child, caring for an elderly parent or the death of a loved one are all examples of something so important to women’s lives, they force themselves to take the investing leap despite imperfect information.
Of course, everything is a little different now because of the pandemic. Many people have seen their savings decimated from unemployment and health care costs related to Covid-19. On the other hand, other people who weren’t directly affected by Covid may have been able to save more during this period because their discretionary spending on things like travel and entertainment stopped.
That said, they may still feel plenty of anxiety about finances and the markets. That means, for now at least, the pandemic may be a life event that is holding investors back.
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A: You’re ready to invest once you have three core personal finance building blocks in place.
The first block? A solid emergency savings fund. It’s easy to think that if you just made more money, then you would be able to do this. Yet shockingly, the research shows that there are people making over $100,000 a year who still have trouble coming up with $500 in cash for an emergency — simply because they didn’t make this core building block a priority.
I think it’s vitally important to build up an emergency fund of three to six months of living expenses. That sounds simple but it can take up to five years for some people, especially if you’re also contributing to a 401(k) or other retirement savings plan. (Which you absolutely should be doing.)
The second building block: You’ve paid off all of your high-interest debt. What constitutes “high interest?” Here’s how I think about it. Over the very long run, stocks historically have generated a 7% return after inflation (using a 3% historical inflation rate – the future could be higher or lower.) So, if you have debt that has an interest rate of 7% or above, in most cases, it’s a better return to get rid of that debt before you start investing outside of a retirement account. Why? Because you’ve just guaranteed yourself a “return” of whatever that interest rate is — as you no longer have to shell out that money!
The third building block? Having money that you don’t expect to spend in the next five to ten years. That gives you a long runway to hold steady while the market inevitably goes up and down. One of the single biggest investment mistakes is selling when the market is down — either out of fear or worse, because you put money into the market that you knew you were going to be spending.
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A: This is a gigantic question that should be asked more often. If more people were aware of the two basic flavors of investing, my hunch is that people would be much less fearful of putting their money in the market.
I like to think of it like this. Some people like to drive in the left lane, weaving in and out to pass cars, speeding up to make it through the traffic light. Some people like to drive in the right lane, keeping to the speed limit and a straight line to their destination. Both drivers tend to end up at the red traffic light, albeit using different speeds! And of course, there’s always that one driver that zooms through right at the last minute of the yellow light.
The same goes for investing. Driving in the right lane is akin to investing in index funds and ETFs that mirror the markets. Driving in the left lane is akin to investors choosing actively managed mutual funds and ETFs or individual stocks and bonds.
In the right lane you are guaranteed to get whatever return that index generates (minus fees). In simple terms, you’ll earn the market return. In the left lane you have the possibility — but not the guarantee — to be that one car that makes it through before the light turns red. Because of the power of compounding, the incremental results of being that “one car” that generates much better returns than the overall market can have a gigantic impact. That’s the thrill of left lane investing.
I find that when potential investors understand that just like your driving style, you can find an investing style that matches your personality, they feel more comfortable investing. And of course, it doesn’t have to be all one or the other — many people choose a mix of the two. If I know a particular road well, I may drive faster and get to where I’m going faster. But if I’m unfamiliar, I may slow down and become less aggressive. The same thinking can be applied to your selection of an investment strategy.
Over the years I’ve noticed a tendency for many women to like the idea of right lane investing. While some may think we’re being “too conservative” — academic research shows that just like the car trying to weave in and out of the traffic, nine times out of ten you end up at the same place over the long run driving in the right lane, but with a lot less stress!
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A: When first-time investors are bombarded with information overload about investing in hot new trends like crypto and NFTs, it can make you even more reluctant to invest. When it comes to these hot trends, I actually think that’s a healthy gut reaction. To me, investing in these areas is like wanting to take a commercial rocket ride into space. Risky and not well-tested yet.
However, I fully realize that there is so much hoopla around these shiny new objects — headlines, broadcast reports, and social media posts — you can feel like you should be doing it too. My advice for first-time investors: Stay clear of these and focus on driving in that right or left lane. But if you absolutely can’t stop yourself from joining that loud, wild party, only invest money you can totally afford to lose.
ajr_images / iStock
A: If you are a first-time investor, the power move is to focus on getting your three building blocks in order. Simply doing that will put you miles ahead of the average person when it comes to the health of your finances. Having these building blocks in place will go a long way towards increasing your comfort with starting to invest for the long run.
Learn More:
This article originally appeared on SoFi.com and was syndicated by MediaFeed.org.
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