Investing is a means to put aside money for your future and get on with your life. While you’re at work, your money is at work for you. The fruits of your labor from investing can be reaped by you and your loved ones in the future. In the words of the great investor Warren Buffett, investing is “the process of laying out money now in the expectation of receiving more money in the future”. The key idea behind investing is to put your money to work in a number of different investment vehicles so it grows in the course of time.
Stocks that are also known as equities refer to the securities that allow shareholders an ownership interest in a publicly-owned company. Stocks give you an actual stake in the business, if you are the only shareholder of the business, you essentially are in control of how the business operates. The stock market, in essence, is a collection of stocks that can be traded by the public on multiple exchanges.
How do stocks come to the financial market? When public companies want to raise capital for their business, they issue stock. Investors who believe in the business’s future potential buy those stock issues. Dividends, as well as appreciation in the share prices, are some of the benefits that shareholders receive for buying the stocks. But they need to be cautious or they might have to witness their investment shrink or get wiped out in case the company goes bankrupt.
One way of looking at the stock market is that it operates like an aftermarket. Shareholders in the company could sell their shares prices further to interested buyers. This trading is carried out on stock exchanges, like the New York Stock Exchange or the Nasdaq. Before the advent of the internet which made online trading easy and accessible, traders had to go to a physical location, usually the exchange’s floor, to be able to trade.
You might have heard investors and news reports mention that “the market was up today”. This generally indicates how the Standard & Poor’s 500 (S&P 500) or the Dow Jones Industrial Average has performed. The S&P 500 is the combined aggregate of 500 large publicly traded companies in the U.S, while the Dow has 30 large companies. This helps in tracking the performance of the collections of stock and depicts their price movements on a particular day.
Investing in the stock market: tips for beginners
You may be curious about the stock market and want to invest in it too. But before you put your money at stake, ask yourself these questions:
- What kind of investor am I?
- What are my investment goals?
- What does my risk appetite look like?
While there are certain investors who trade actively when it comes to managing their money’s growth, others choose to invest and not stay glued to the market moves.
Buy the right stock
Everyone gives you this piece of advice: buy the right stock. But how does one figure out which one is the right stock for them? The stock’s past performance may not always be the best metric to anticipate its performance in the future.
If you wish to make a sound investment in individual stocks, you should gear up to conduct a lot of work background research on the company and manage your investment.
When you’re assessing the company, make sure you are assessing the company’s fundamentals such as earnings per share (EPS) or a price-earnings ratio (P/E ratio). But wait, there’s more. You should also analyze the company’s management team, study its competitive advantages, and understand its financials which include its balance sheet and income statement.
Avoid individual stocks
You may have heard people talk about a major stock win or an excellent stock pick.
Do make note that to be able to earn money consistently in individual stocks, you must be aware that the forward-looking market shouldn’t be already pricing into the stock price. Remember that in the stock market, every seller can find a buyer who believes that the same shares can bring them profit.
An index fund is a good alternative to individual stocks, this might either be a mutual fund or an exchange traded fund (ETF). These funds can hold hundreds of stocks together. Every share you buy of a fund owns all the companies which also means the index.
Contrary to stock, mutual funds and ETFs may charge you some fees annually while some funds are free.
Diversify your portfolio
A major plus point of an index fund is that you get a range of stocks in the fund right away. For instance, if you buy a diverse set of funds based on the S&P 500, you’d be the owner of stocks in hundreds of companies that are spread across several industries. Another option is to buy a narrowly diversified fund that is specific to an industry or two.
Diversification reduces the risk of your overall portfolio being affected by a single stock. If you want to create a broad portfolio, your best bet is to buy an ETF or a mutual fund. Such products have built-in diversification, saving you the trouble of individually analyzing the companies held in the index fund.
Diversification is not just simply holding onto many different stocks. It implies that the investments are spread among various asset classes – as stock in similar sectors could have similar movements due to similar factors.
Prepare for downturn
Most investors find it hard to stomach losses. The stock market can fluctuate and thus, you should be prepared to incur losses from time to time. Maintain your composure during trying times and you will keep yourself from buying high and selling low.
When you have a diverse portfolio, a single stock cannot drastically impact your overall return. In situations when this does happen, you may want to avoid buying individual stocks. You have to warm up to the associated risks because even index funds fluctuate. You just cannot rule out risks entirely.