This is a translation of our Dutch article “Investeren voor beginners“
Are you looking for alternatives to the horrible savings accounts? You’ve just found your starters guide! Before we dive in, there will be quite some more reading work than just this article. It’s very important that you understand the risks of what you’re doing, and I won’t be able to explain everything here. We’ve translated this article from the Dutch version, and modified to take into account non-Belgian residents. However your situation might be different and legislation might change over time. So keep informed regarding the stock market.
Here’s a bit of background reading we recommend you go through before you read the rest. We will repeat multiple things to make sure the basics are clear!
In investment, everything is related to risk and you try to diversify your portfolio (the distribution of all your money) according to a risk you’re comfortable with. At a younger age, you can take more risk, because you still have a long time to let the market restore (some people say, put your age’s % in safer investment. E.g. 30 years = 30%). Taking more risk, usually means getting more returns and vice versa. I (and Warren Buffet) only recommend investing for the long term (> 10 years). Anything below, I’d call gambling. The market is very hard, if not impossible to predict, so if you need your money back in 5 years and it’s only worth half, you will need to sit it out. Money you need back sooner, you don’t invest.
The lowest risk (next to putting your money into a stock?) you obtain through the savings account. But, the returns are that bad that you’re losing money. Life gets more expensive every day (a bread today costs more than a year ago), which is what we call inflation. The inflation is on average 2%, which makes it the minimal return (mathematically even a bit more than that) you need to get not to make a loss. At this moment savings accounts are (much) below 1%.
Going one step up the risk ladder: Bonds. In a way, bonds are loans to someone else (typically a company but could be a government too). They guarantee you x% return/interest on a duration of y years. After those y years, you receive back your initial money and on top the yearly x%. Only when a company would go bankrupt, you would lose your initial money. This setup is relatively safe, which is why the return is usually lower (in some cases even negative, which makes investing a little absurd). In Belgium (and I assume other countries), there’s another disadvantage that kicks in. The regular return (x%) will be highly taxed at 27%. So, from your profits, you’re only keeping 73%.
Next stop: Shares. With a share you own a piece of a company. There are 2 ways to profit from this: The share increases in value and dividend (if the company made good profit in the last year, it can decide to pay some to shareholders) payout. The value increase is typically not taxed, but the dividends are usually again taxed (just like bonds at 27%). You buy a share from someone else who’s selling it. When nobody is selling/buying you will have low liquidity, and you’ll have to wait for someone to place an offer. Furthermore, you’re also buying or selling at a price that people want to sell or buy (known as the market price).
This is part of where the higher risk comes from: When you buy/sell shares, the price can change rapidly; especially if you’re buying from a single company. For example: When Elon Musk sends out another tweet with important company information, the price might rise and soon after drop again. If you bought at the peak, or sold at a low point, you might have lost a good amount of money. Also good to know: Shares are registered at stock exchanges (New York stock exchange, Amsterdam, Brussels…) and depending on where you buy them, you might have different fees and have to pay different taxes. Keep this in mind.
Warning: All other investment instruments (short/long/derivatives) should remain untouched by an inexperienced investor! But even experienced investors have probably had some bad luck with these special instruments.
Many of the investments you do, are a combination of aforementioned:
- Pillar 1 Retirement savings: The first pillar is what the country would pay you from social security and is based on the amount of years you worked. In some countries you can choose how aggressively you want to invest this pillar, in Belgium you can’t.
- Pillar 2 Retirement savings: Your employer might provide you with a group insurance. A typical composition is part life insurance and part retirement. Often you can choose how much goes in each part. Usually (even in Belgium) you can choose how the pension part is invested (more bonds, less stock or the inverse – with the related risk and profit). Best to check this with your employer, because when you’re young, go for more risky! (not to self: do this 😊)
- Pillar 3 Retirement savings: In Belgium you can save another 1000 euro (tax deductible) in your own funds. These funds can only be invested in at banks, which aren’t specialized in investment funds, and offer their own actively managed fund, which means that you’re paying for people’s salary and markup of the bank. You can choose how risky they should invest your money, and they manage what exactly they’re investing in. The biggest advantage in Belgium, is that you get an immediate tax reduction up to 300 euro per year. But be careful, there’s only so much you can deduct, so you might not be able to (if you have a loan, you probably don’t benefit). With these funds, you do pay taxes at the end of the ride, but spreading your portfolio is a good strategy.
- Finally, you’re always free to manage your own investment; that’s why you’re here right? To do so, you need to have access to the stock market. Either you do this through a bank, or through a broker. Banks aren’t specialized, but brokers are. A broker optimizes its costs so that it’s usually cheaper for you. We invest through a Dutch broker called Degiro where we don’t pay any monthly fees. Degiro also has local branches in a couple of other countries, but you’re constrained by the languages. In Belgium you can only use Degiro in Dutch and French. In the Czech Republic only in Czech. Don’t try to make an account in the UK, because you won’t be able to transfer money there. Once you have an account, you can start buying stock. At Degiro we buy regularly a specific ETF (=Exchange Traded Fund). Every choice in our investment strategy was made to reduce the costs, because every cent you lose now, you’ll have to earn back one way or another. Always try to reduce costs as much as possible.
What’s an ETF and what do I do with it?
An ETF is a collection of stock (it could be bonds too, but those we’ll ignore for now). So instead of putting all your money in the stock of 1 company, you could buy (for example) stock in 5000 companies at once. Doing so, significantly reduces your risk, because not all of those companies will go bankrupt at once, and not all markets will be doing badly at the same time.
But how is this list of companies chosen? Well, an ETF follows an index (an algorithm). For example, the BEL20 is an index of the 20 biggest Belgian companies). While the ETF IWDA follows an index of the world’s 1700 biggest companies, in different sectors and countries (but 60% of it is invested in USD stock, so it will be influenced more by the US market). Important note: you can only buy a complete ETF. If the value is currently €50, you can’t buy ETF for €25. (in a bank pension fund, you usually can)
Degiro offers a “core selection” (kernselectie) where you don’t pay any transaction fees. IWDA is an ETF in their core offer that’s registered on the Amsterdam exchange. Keep in mind these restrictions (to reduce costs):
- Once a month (January, February… Not 30 days in between) you can perform a transaction (buy or sell) on a stock.
- When your transaction is greater than 1000 euro, you can perform multiple per month, but they all need to be buy or sell.
- In all other cases, you pay transaction costs.
How do we get started?
How do you monthly buy “AMS:IWDA” via Degiro? First create an account on your local degiro site (https://www.degiro.eu/). Make sure you have your ID card with you, a local bank account that will be tied to this and go through the forms (it’s a little tedious the first time, but once past you’re good to go).
Very very important detail; after entering all your details, you’ll have a screen where you can choose a CUSTODY account. This option is somewhat hidden, so read very well. You can’t change this later. A custody account prevents Degiro to borrow your stock to others (this is one of those investment instruments that are not a good idea to be involved in). Borrowing adds the slight risk that you might not get back your stock, which we don’t want. For the investment strategy described here, you don’t need any of the features of a “standard” account, that’s why you should get a custody account.
In our portfolio, we will only buy AMS:IWDA (URL goes to SWDA because it’s in English. Only difference is the currency). Here a little more on why this one in particular: IWDA has a Total Expense Ratio (TER) of 0.2% which means that they’ve tried to reduce the administrative costs for this ETF as much as possible. It’s also a reinvesting ETF, which is very interesting for countries where you pay taxes on dividends. Whenever the underlying stock (any of the companies) pays out dividens, you will not receive the money, but it will be reinvested in more IWDA stock! Sounds like a missed opportunity. Well no, the advantage is that these dividens are paid out in Ireland where IWDA is registered. There, no taxes are due. The only way to get the money back to you, is to reinvest it!
Buying an ETF is typically considered a passive investment strategy: you buy the same thing regularly, and don’t actively investigate the market. With such a strategy you aim for an average value increase of 7% per year (historically, this is also the market average). This is therefore a true “buy and hold” strategy, where you add money every month and don’t sell your stock for the coming 10 years (at least).
Account ready. What now?
From here on, much depends on your goals: Do you want some extra cash for the old days (if you’ve lived in Belgium, make sure to have a look at the retirement you’ve already gathered)? Or would you rather want to retire early in 20 years? Let’s have a look at this ambitious example:
You’re 25 years old and would like to retire at 40. What would your living expenses be at 40? Would you be fine with 1500 euro per month? This makes yearly an amount of 18000 euro. If you’d like to live of the interest for the rest of your life, you’ll have to ensure that this 18000 euro is smaller than 7% of your final total investment amount. Yearly you get a value increase of 7%, so as long as you sell less than 7% of your ETF per year, in theory you’d have a monthly “salary” for eternity.
But consider that you will need another 2% to compensate inflation, which leaves you only 5%. And to keep a small buffer, you should keep another 1% aside. This leaves you with 4% or 1/25 that you can sell yearly. If we inverse the calculation: 18000 * 25 = 450 000. This is not a small amount, but it’s not impossible. Compound interest will be your best friend along the way!
This very fun calculator will make your life easy. With a little trial and error, you’ll soon find out how much to invest monthly to reach your goals. Because it’s -luckily- not as simple as 450k / 20 years / 12 months = €1900!
Compound interest (interest on interest on interest…) has a massive effect on your investment. With compound interest you only need to save 900 euro per month to reach 450k (without compound interest that would be much more). The sooner you start investing, the longer the compound effect will grow your capital!
And now it’s your turn. Read more about investing (look for the ETF literature), then slowly and carefully dive in! Don’t do any stupid things like investing all your money or taking massive risks. Understand what you’re doing and then the stock market can do great things for you. Do you have any questions or remarks? Use the comment section below!
Why don’t you also invest in X (e.g. nasdaq-100 ETF)
We only invest in one single ETF, because the spread (geographically, industries, currencies) is sufficient for our taste and therefore we don’t want to diversify more. We do still have other investments in more safe pension funds and savings. Sticking to a single ETF means less management, and usually less transactions (and therefore less fees). Degiro also doesn’t offer many other interesting ETFs in their core offer (with free transactions) that are accumulating and registered in Ireland (less taxes).
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