The 90/10 Rule of Investing

Investing your hard-earned money can be a daunting task, especially when there are so many options to choose from. However, one strategy that has proven to be successful for many investors is the 90/10 rule. This rule is different than Warren Buffett’s 90/10 rule (90% S&P500 10% US Bonds), and is more the investors that want to try their hand at investing on their own. This 90/10 rule suggests that 90% of your investment portfolio should be allocated to low-cost index funds, while the remaining 10% can be used for “fun money” investments.

What are Index Funds?

Index funds are investment vehicles that aim to track the performance of a specific market index, such as the S&P 500. They are considered to be low-cost options because they have lower fees compared to actively managed funds. This is because index funds simply follow the performance of the index they are tracking, so they don’t require a team of analysts to make investment decisions.

Why Allocate 90% to Index Funds?

The reasoning behind allocating 90% of your portfolio to index funds is that it provides a solid foundation for your investments. Index funds have a proven track record of providing solid returns over the long term, without taking on excessive risk. By investing in a broad-based index fund, you can ensure that you are diversifying your investments and not putting all of your eggs in one basket.

Additionally, the low fees associated with index funds make them a cost-effective option for long-term investing. Over time, the fees associated with actively managed funds can eat away at your returns, making it more difficult to reach your financial goals. By investing in low-cost index funds, you can keep more of your money working for you and not being paid to investment managers.

What is “Fun Money” Investing?

The remaining 10% of your investment portfolio can be used for “fun money” investments. This term refers to investments that you make for the purpose of having fun, and are usually high-risk/high-reward. These investments can be anything from individual stocks to cryptocurrencies, real estate, or start-ups.

The idea behind “fun money” investments is that you can take a little more risk with a small portion of your portfolio, without putting your entire investment plan at risk. This helps you avoid FOMO and making bad emotional decisions when seeing those risky investments start to go up. It also prevents these risky investments from blowing up your portfolio if they go sour.

Why the 90/10 Rule Works

The 90/10 rule works because it strikes a balance between stability and risk. By allocating 90% of your portfolio to low-cost index funds, you ensure that the majority of your investments are stable and not susceptible to sudden market swings. At the same time, the remaining 10% allows you to have a little bit of fun and potentially generate higher returns.

One of the key benefits of the 90/10 rule is that it helps to reduce stress and anxiety when it comes to investing. By having a solid foundation in index funds, you can feel confident that your investments are well diversified and that you are not taking on excessive risk. At the same time, the “fun money” investments allow you to have a little bit of excitement in your investment portfolio.

A Story to Illustrate the 90/10 Rule

To illustrate the power of the 90/10 rule, let’s look at the story of Sarah, a young woman who was just starting to think about investing her money. Sarah had always been intimidated by the world of investing, but she knew that she needed to start building a solid financial foundation for her future.

Sarah started doing research and came across the 90/10 rule. She decided to allocate 90% of her investments to low-cost index funds and the remaining 10% to “fun money” investments. Over the next few years, Sarah watched as her index fund investments steadily grew, providing her with a solid foundation for her financial future.

One day, Sarah decided to use some of her “fun money” to invest in an up-and-coming technology company. She did her research and felt confident that this company was poised for success. Much to her delight, the company’s stock price skyrocketed, providing her with a substantial return on her investment.

However, the excitement was short-lived. The technology market soon took a turn for the worse, and the company’s stock price plummeted. Sarah was initially worried that her “fun money” investment would cause her to lose all of her gains, but then she remembered the 90/10 rule. The majority of her investments were still securely invested in low-cost index funds, providing her with stability and peace of mind.

In the end, Sarah’s “fun money” investment taught her an important lesson about the importance of balance when it comes to investing. She realized that by allocating 90% of her investments to low-cost index funds and 10% to “fun money” investments, she was able to enjoy the excitement of investing while still ensuring that her financial future was secure.

Conclusion

The 90/10 rule is a simple and effective strategy for anyone looking to build a solid investment portfolio. By allocating 90% of your investments to low-cost index funds and 10% to “fun money” investments, you can strike a balance between stability and risk. This allows you to have a solid foundation for your financial future while still enjoying the excitement of investing. So, if you’re just starting out on your investing journey, consider using the 90/10 rule as a starting point and see where it takes you.