Exactly How I'd Invest $5,000 If I Had to Start From Scratch Today

Having $5,000 to invest may not seem like much when you’re bombarded with headlines that say you need seven figures to retire. However, investing $5,000 now and keeping it there for the long haul could make a huge difference down the road. Imagine if you had invested $5,000 in the S&P 500 index 35 years ago – your investment would be worth about $125,000 today.

If I had $5,000 to invest and was starting from scratch, here’s exactly what I would do.

Open a Roth IRA

With $5,000 in my bank account, the first thing I would do is open an investment account. And without a doubt, I would choose a Roth IRA over any other account.

Why? Because although your Roth IRA contributions won’t get you a fatter tax refund, that money grows completely tax-free. And if you wait until you’re 59 1/2 and have had the account for at least five years, all that money is completely tax-free as well.

I would rather sacrifice a tax break today in exchange for unlimited tax-free growth. Plus, you can take out your contributions (but not the earnings) without penalties or taxes whenever you want. However, to let your investments grow over time, it’s best to avoid doing so.

My first investment: An S&P 500 fund

After opening my Roth IRA and transferring my $5,000, I would invest the money in an S&P 500 index fund. This fund automatically invests your money in 500 of the biggest, most profitable companies in the U.S., taking care of diversification for you.

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Investing in the S&P 500 means locking in the market’s growth since it represents about 80% of the U.S. stock market’s value. Over long periods, a decade or more, this investment has been consistently profitable. Eventually, I would add individual stocks to my portfolio, but starting from scratch with the S&P 500’s average annual return of about 10% would make me quite happy.

^SPX Chart

Data by YCharts.

Ignore the stock market

It’s impossible to completely ignore stock market news, especially during crashes like the one we experienced in March 2020. However, it’s important to remember that corrections (a drop of 10% or more) and bear markets (a drop of at least 20%) are normal parts of investing. In fact, bear markets happen about once a decade, but the stock market has always recovered.

The worst thing you can do after a crash is to sell in a panic. So, no matter how bad the news is, I would keep my money invested, knowing that in the long term, I would most likely come out ahead. Even a dramatic crash seems like a blip when you look at the astronomical growth the stock market delivers over many decades.

$5,000 would be just the start

I would also invest the $5,000 all at once. A 2012 Vanguard study found that historically, when you have a lump sum of cash, you get better results 66% of the time by investing it all at once versus dollar-cost averaging. This is because having more time in the market is typically better.

But I wouldn’t wait to accumulate another large pile of cash to continue investing. From there, I would start investing on a schedule regardless of the market’s performance.

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My top priority would be to figure out how much I could afford to invest and make getting my full 401(k) company match a priority (after all, that’s free money). Then, I would focus on maxing out my Roth IRA. For individuals under 50, the maximum contribution is $6,000 in 2022, and for those over 50, an additional $1,000 can be contributed. If I still had extra savings, I would split the difference between unmatched 401(k) contributions and investing in individual stocks in a taxable brokerage account.

Even if you don’t have $5,000 to invest, you can follow the same strategies outlined above. Many brokerages allow you to open a Roth IRA with no minimum and start investing with only a few dollars. Remember, the sooner you start, the more time the market will have to work its magic.

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