George emailed me and asked the following question: “I am a young person just starting my career and want to start investing. I like the dividend approach, however I only have $1000 available to invest right now and then maximum $50 per month for the rest of the year. What would you do if you were me? I am from the U.S. and do not plan to access this money for many years to come.” [ad#tdg-embedded]

George’s question is one I get quite often. How to start investing with a small amount of money. Although I am not an investment advisor, or registered to offer investment advice I can provide insight on what I would do. Let’s break it down into a couple of steps:

1. Invest the $1000 in a good low cost index fund

The first thing to do is to figure out how to invest that $1000. Theoretically, George could invest that $1000 over a period of time, breaking that $1000 into $83 investments. This would allow him to buy at the market highs and lows over the months he invests the money and not run the risk of investing all that money at a point in time, which may be a market high (you never know).

Alternatively, he could simply invest it all in one go and be done with it taking the risk.

There is good research that provides evidence that it is better to simply do a lump-sum investment as opposed to dollar cost averaging. The thinking is that it gets all of that money working for you right away and over long periods of time any timing issues created by investing at absolutely the wrong time will be erased.

With the understanding that the $1000 will be invested all at once, the question of what to invest in needs to be addressed. George says he likes the dividend approach. In my opinion, with only $1000 to invest individual dividend stocks are out of the question. There is no way to properly diversify a portfolio with only $1000. With low $4.95 commissions to buy a stock, the most he could buy is 2 dividend stocks which is not enough to provide adequate diversification.

Instead, my approach is always to start to build a core portfolio of quality low cost index funds, building up to a diversified asset allocation. Since we are talking about $1000, I personally would start by buying a U.S. Total Market Index fund. Over time as George gets more money hey can start to add other asset classes (bonds, small-caps, international equity) to achieve good diversification.

Since George is going to be putting an additional $50 to work on a monthly basis, it might be wise to buy an index fund that also allows for monthly contributions of $50 per month. Two good alternatives to consider are Vanguard or TD eFunds in Canada.

2. Set up an Automatic Investment Plan into an Index Fund for $50 per month

Now that that first $1000 is invested, we can move on to what to do with that $50 per month George also wants to invest. What I would do is simply add that $50 per month into the same fund the $1000 went into.

As time goes on and George has more money available to invest, he can then add those additional funds to other index funds rounding out that asset allocation.

George’s question is quite common but is rather easy to address. Investing does not need to be complicated. The key to starting out is to set the right foundation low cost index funds in a core portfolio. Once more money becomes available over time, you can diversify into more asset classes.