Roth IRAs offer a ton of advantages for the average person that doesn’t make so much money that they aren’t allowed to contribute to them. If you aren’t already familiar with Roth IRA accounts Investopedia has a guide on their website that you can use to learn more about them. In my case I’m allowed to make the maximum contribution every year, and the idea of not paying taxes on my earnings when I retire and being able to withdrawal my contributions if and when I need them without being hit with a penalty is more than enough to keep me interested in doing that as long as I’m able to do so.
The guide on Investopedia is very comprehensive, so I’m not going to go into too many details on how Roth IRAs work in this post, but I did want to point out a few features since they relate to the Seeking Alpha post and how I’m planning on allocating my funds. Here are the main highlights:
- You can invest in individual stocks with a Roth IRA.
- You can also invest in fixed income assets like bonds with a Roth IRA.
- If you wait until retirement age to withdrawal funds, you won’t pay taxes on contributions or earnings, so it makes sense to put your riskiest assets into your Roth IRA.
As I get older I plan on having more money allocated in dividend growth stocks, and less money allocated in high growth stocks. I’ll be focused on fixed income once I retire, which most likely means switching from growth stocks to stocks with high dividends and bonds. The main point here is if you have a million dollars in your account, and you put half of it into stocks that pay an average dividend of 9% and the other half into bonds that pay an average yield of 6%, you can invest in them and get a passive income stream of $75,000. This is obviously a very basic example and market conditions are going to vary, put generally speaking I like the idea of leaving the principal amount where it is and simply living off interest income rather than building out a high account balance and then simply taking money out every month once I retire. And as I mentioned previously that $75,000 will be tax free if you are taking it out of a Roth IRA and are at least 59 1/2 years old.
In terms of how many stocks I’m going to pick my goal is around 18. This isn’t a number that I drew out of a hat, and if you are new to investing and have the time I would highly recommend taking some of the free courses offered on Morningstar’s investing classroom. There is a lot of good information available for free on Morningstar, and among other things these classes will explain why you typically want to have between 12 and 18 stocks in your portfolio.
In terms of which stocks to pick there are several methods you can use. If you want to follow the criteria mentioned in the Seeking Alpha article, you can use a stock screener to find stocks and Finviz offers a free stock screener that I use all the time. You can also identify certain industries you are familiar with and then narrow it down from there to individual stocks. There are also a variety of services available that will recommend stocks for you. In my case I’m trying all of these methods and don’t have a specific one that I prefer over the other yet. I will say that I prefer to invest in companies that I’m familiar with and have have some sort of MOAT. If you don’t know what MOAT is, again I’d strongly suggest going through some of those free classes on Morningstar.
Once you figure out which stocks you want to buy, there are a few ways to determine when you should buy them. Morningstar also offers a premium service that will tell you if they believe a stock is too expensive, fairly priced, or a bargain, and one method would be to wait until the stock is at least fairly valued before buying it. A lot of investors, especially traders who buy and sell often also like to use technical analysis to figure this out, and if you aren’t familiar with that Investopedia has a good introduction article on their website. There are countless other resources out there as well and I’m not going to try and list them all but I will say that you should always do your own research when considering any investment. One final thing I’d like to add is you can always invest in an index fund like the FXAIX fund I mentioned in the last article if the idea of picking your own stocks doesn’t sound good, and you should have both options available with a Roth IRA.
So that covers all of the buckets that the Seeking Alpha article mentioned. However as I mentioned previously I ended up coming up with my own plan based on that article, and one of the main differences with my plan is there are a few additional types of investments that I am going to consider. I’ll cover those in the next couple of articles.