Kathleen, 53, wants to save for retirement but doesn't have much to play with.
She needs to find about $50 a month and a place to invest that won't eat it up with fees. She also needs to make her account inaccessible enough that she won't be tempted to cash out.
We'll guide Kathleen to the best places to put her money and show how you can build real savings on nickels and dimes.
The challenge
When you have lots of money to invest, you've got nearly limitless options. Banks, brokers, mutual funds, financial planners and private investment managers are all eager to take your money.When you're investing small amounts, there are fewer choices. That's because most brokers and mutual fund companies have investment minimums, meaning they'll take your cash only if it comes in increments of $100, $1,000 or more.
Why? Most of the investment world lives on commissions and fees that are charged as a percentage of assets. Mutual funds, for example, commonly charge their investors about 1% of the amount invested each year. If you invested only $100, a 1% fee would amount to $1 annually. The fund company would lose money by simply putting stamps on your account statements.
Saving small
But everyone needs to invest, even people without big bucks.Kathleen, for instance, lost her job two years ago and has been living on temporary and part-time work, earning roughly $22,000 a year from two part-time jobs and occasional checks from unemployment insurance. When she was employed full time, she earned $38,000 annually working in a suburban New York university.
She's since slashed expenses to the basics: rent, transportation, utilities, insurance and food. No more meals out, vacations or shopping sprees.
"It's been hard," she says. "I have to watch everything I do."
Kathleen doesn't even buy gifts anymore. Instead, she takes her nieces and nephews to a park and helps her parents with chores, such as washing their car or cleaning closets.
"I figure they won't remember the gift anyway, but they'll remember the time we spent together," she says.
The big problem is she has only a small amount saved for retirement: just $22,296 in a 401(k) sponsored by her former employer. So she needs to marshal any discretionary income possible to save more.
Step 1: Find the cash
Kathleen's budget is tight, but she has a couple of little luxuries.She takes ballet and tap classes for $12.50 a week and springs for cable TV at a cost of $40 monthly. She's loath to cut those pastimes, as they're her main sources of entertainment.
More from MSN Money
She can cut her coffee habit, though. She goes to Dunkin' Donuts twice daily and spends $1.93 on each cup of joe. If she were to get one coffee daily instead of two, she could scrape together about $50 a month.
Of course, if she'd just make coffee at home, she'd be flush. But that's not happening.
"It just doesn't taste the same," she says. But she's willing to give up the second jolt.
Step 2: Weigh the options
Once Kathleen has some cash, she has essentially three options for investing:- Bank and credit union deposits.
- Individual stocks purchased through discount brokers.
- Mutual funds.
There are pros and cons to each.
Banks and credit unions are attractive because they're widely available and easy. Virtually every bank or credit union in the country would happily set up a savings account and allow Kathleen to feed it every month with her $50 investment.
On the other hand, bank accounts pay paltry rates of return, about 1% to 3% in today's market. That's not even going to keep up with inflation, so while Kathleen would be saving, she'd be losing buying power over time.
Moreover, she doesn't want her money to be easily accessible because she's afraid she'd spend it before retirement.
She can make the money less accessible by putting it in an individual retirement account, but most banks will charge her an IRA maintenance fee of $30 to $50 a year. That would further depress her returns.
Discount brokers would allow Kathleen to buy individual stocks for as little as $4 a trade. They're also likely to levy an annual account fee.
Stocks appreciate far faster than the rate of inflation -- if you pick wisely. But there's lots of risk, especially when you have only enough money to invest in one or two companies.
Kathleen has never purchased individual stocks before and isn't eager to start now.
Mutual funds are Kathleen's best bet.
Funds pool the money of many people and use it to buy numerous securities. Each investor gets a pro-rata share of the investments in the pool. Because many people are investing together, the funds have the resources to buy many investments. That allows them to diversify their holdings, which reduces the risk.
In addition, Kathleen wouldn't have to spend the time analyzing individual stocks. With a mutual fund, a professional fund manager does that for you.
The downside: Managers charge fees for their services. In some cases, those fees are high enough to gobble up a good portion of investor returns.