How to Start Investing with Just $1,000

Investing can make you wealthy, but you don’t have to be wealthy to start investing. Thanks to the internet, getting started in stocks is easy, and you can do it with as little as $1,000.

Here’s how.

Put it in the right place

If you’re investing for the long haul…say, for retirement, you’ll want to make sure you invest through a tax-advantaged account. For those just starting out, I’d recommend a Roth Individual Retirement Account, or Roth IRA.

An individual retirement account isn’t an investment. Think of it as a container for your retirement savings. Any money you put in this account will grow tax free, and when you withdraw from the Roth IRA in retirement, you won’t pay taxes on what you take out. 

Yes, even if you retire with $50 million in your Roth IRA, as unlikely as that may be, you can withdraw all of it tax free to fund your retirement. And if you need to withdraw earlier, say, to buy a home, you can withdraw your contributions, in any amount, without paying penalties. That’s why I think it’s a good fit for younger investors who are just getting started -- it’s super flexible.

My colleague, Micheal Douglass, wrote an excellent article on why he personally uses a Roth IRA to save for retirement. Note, though, that Roth IRAs are subject to some income limits based on your modified adjusted gross income for tax purposes, so you may have to choose a traditional IRA if you're a particularly high earner. 

Making your first investment

There are many different places to open an IRA. Vanguard is a popular choice. It operates without a profit motive, so it is to the investment industry what credit unions are to the banking industry. As a result, it often has the lowest fees on many types of investments.

There are many ways to invest, but funds are some of the best ways to invest when you are just getting started. Two popular choices are described below.

1. Target-date funds -- Vanguard’s target date retirement funds are designed to automate the retirement planning process. Target-date funds automatically shift toward less risky investments as the retirement date nears, consistent with traditional retirement planning advice. So, if you plan to retire around 2050, the Vanguard Target Retirement 2050 Fund (VFIFX -0.16%) would be a good choice, for example. Best of all, the funds carry a low $1,000 minimum, and charge fees of just 0.15% per year, or $1.50 for every $1,000 invested. These funds hold thousands of stocks and bonds from companies all around the world, helping you put your nest egg in many different baskets and spread your risks around, even if you start with just $1,000.
2. Index ETFs -- Vanguard also offers a host of index ETFs, which are basically funds that trade on a stock exchange like stocks. The popular Vanguard S&P 500 ETF (VOO 1.29%) invests in all 500 stocks in the S&P 500 index, which together make up about 80% of the U.S. stock market’s value. Conveniently, one share costs around $250, so with $1,000 you could buy four shares for a total investment of about $1,000. Owning a share of an S&P 500 fund makes you part owner in 500 of the largest and arguably most successful companies in the United States -- companies like Apple, Amazon, JPMorgan Chase, Berkshire Hathaway, and more.

Focusing on what you can control

Over time, the power of compounding can turn a small amount of money into much larger sums. An investor who sets aside $1,000 today and earns a 8% return for the next 40 years, on average, would end up with about $21,725 at retirement.

Of course, small changes in returns result in big differences over long periods of time. The table below shows how different returns affect the outcome over a 40 year investment horizon.

Author calculations.

The single most important thing you can do, especially when starting with small sums, is focus on what’s most controllable. Sure, it’s tempting to want to swing for the fences to get a higher return, because higher returns inevitably results in having more money at retirement, but increasing your savings rate is far, far easier than generating higher returns -- and your savings rate is something you can control.

Every day, millions of people all around the world go to work trying to find a way to turn an 8% return into an 8.1% return. These are highly-educated people who work 80 hour work weeks, if not more, just trying to find the slightest edge on the next highly-educated person who is working just as hard to do the exact same thing.

In truth, the single greatest edge the individual investor has is the ability to be patient, and the ability to save 5% of their income instead of 3%, or 10% instead of 8%. It’s not always intuitive, but regardless of how the stock market performs over the next 40 years, someone who invests 10% of their income will almost certainly have twice as much at retirement as someone who invests 5%, all else equal.

Of course, investors who are more entrepreneurial may want to dedicate a small part of their portfolio to individual stocks in companies they'd like to follow. I can't argue against that. I think it's an excellent learning experience to own even a single share of one stock, just to follow it more closely and learn more about what makes the stock move up and down. 

Ultimately, there is no right way to invest for every single person, but there is a right time to invest...and that's as soon as you can.