Start Investing

It is never too soon to start investing. Investing is the smartest way to secure your financial future and to begin letting your money make more money for you. Contrary to what you may think, investing is not only for people who have plenty of spare cash. You can get started investing with just a little bit of money and a lot of know-how. By formulating a plan and familiarizing yourself with the tools available, you can quickly learn how to start investing.

Steps

Getting Acquainted with Different Investment Vehicles

1. Make sure you have a safety net. Having a little bit of financial insurance is a good idea for two reasons. First, if you happen to lose all your invested money, you'll have something to fall back on, because you won't have lost everything. Second, it will allow you to be a bolder investor, because you won't be worried about risking every single penny you own.
   • Save between three and six months equivalent expenses. This is an emergency fund for the unexpected large expense (job loss, injury, auto accident, etc.). This portion should be left in cash or something very conservative and liquid, because it is meant to be at the ready when you might need it.
   • Once you have an emergency fund established, you can start to save for your long-term goals, like buying a home, retirement, and college tuition.
   • If your employer offers a retirement plan, this is the next place to start saving, as it can save on your tax bill and you may receive "free" money in the form of the employer match, which you don't receive unless you contribute yourself.
   • If you don't have a retirement plan through your workplace, most employees are eligible to contribute to a traditional or Roth IRA. If you are self-employed, there are other options, like the SEP or SIMPLE IRA. Once you've determined the type of account(s) to set up, you can then determine which investments to hold within them.
   • Get current on all your insurance. This includes auto, health, homeowner's/renter's, disability, life insurance, and possibly liability. You may never need it, but you'll be happy to have it if you do.
2. Learn a little bit about stocks. This is what most people think about when they imagine "investing." Put simply, a stock is a share in the ownership of a business, a publicly-held company. The stock itself is a claim on what the company owns — its assets and earnings. When you buy stock in a company, you are making yourself part-owner. If the company does well, the value of the stock will probably go up, and the company may pay you a "dividend," a reward for your investment. If the company does poorly, however, the stock will probably lose value.
   • The value of stocks comes from public perception of its worth. That means the stock price is driven by what people think it's worth, and the price at which a stock is purchased or sold is said to be what the market will bear, even if the underlying value as measured by certain fundamentals shows otherwise.
   • Stock prices go up when more people want to buy than sell. Stock prices go down when more people want to sell than buy. In order to sell stock, you always need to find a buyer who's willing to buy at the listing price. In order to buy stock, you always need to buy from someone who's selling their stock.
   • "Stocks" can mean a lot of different things. For example, penny stocks are stocks that trade at relatively low prices, sometimes just pennies. (Most stocks have a price in the dollars.) Stocks can also be bundled into an index, like the Dow Jones Industrials, which is a list of 30 high-performing stocks. Indexes can be useful as an indicator of the performance of the whole market.
3. Familiarize yourself with bonds. Bonds are issuances of debt, similar to an IOU. When you buy a bond, you're essentially lending someone money. The borrower ("issuer") agrees to pay back the money (the "principal") when the life ("term") of the loan has expired. The issuer also agrees to pay interest on the principal at a set rate. The interest is the whole point of the investment. The term of the bond can range from months to years, at the end of which period the borrower pays back the principal in full.
   • Here's an example: You buy a five-year municipal bond for $10,000 with an interest rate of 2.35%. You give the municipality your hard-earned $10,000. Each year, the municipality pays you interest on your bond to the tune of 2.35% of $10,000, or $235. After five years, the municipality pays back your $10,000. All in all, you've made back your principal, plus a profit of $1175 in interest (5 x $235).
   • Generally, the longer the life of the bond, the higher the interest rate. If you're giving your money away for a year, you probably won't get a high interest rate, because one year is a relatively short period of risk. If you're going to give away your money and not expect it back for ten years, however, you will be compensated for the higher risk you're taking, and interest rate will be higher. This illustrates an axiom in investing: The higher the risk, the higher the return.
4. Understand the commodities market. When you invest in something like a stock or bond, you invest in what it represents. The piece of paper you get is worthless, but what it promises is valuable. A commodity, on the other hand, is something of inherent value, something capable of satisfying a need or desire. Commodities include pork bellies (bacon), coffee beans, oil, natural gas, potash, and many more. The thing itself is valuable, because people need and use it.
   • People often trade commodities by buying and selling "futures." The term sounds complex, but it's easier than it sounds. A future is simply an agreement to buy or sell a commodity at a certain price sometime in the future.
   • Futures were originally used as hedging insurance by farmers. Here's how it worked: Farmer Joe grows avocados. But the price of avocados is really volatile, meaning that it goes up and down a lot. At the beginning of the season, the wholesale price of avocados is $4 per bushel. If Farmer Joe has a bumper crop of avocados but the price of avocados drops to $2 per bushel in April at harvest, Farmer Joe has probably lost a lot of money.
     • Here's what Joe does in advance of harvest as insurance against such a loss. He sells a futures contract to someone. The contract stipulates that the buyer of the contract agrees to buy all of Joe's avocados at $4 per bushel in April.
     • Now Joe has insurance. If the price of avocados goes up, he'll be fine because he can unload his avocados at the usual market price. If the price of avocados drops to $2, he can unload his avocados at $4 to the buyer of the contract and make more than his competition.
   • The buyer of a future always hopes that the price of a commodity will go up beyond the futures price he paid. That way he can lock in a lower price. The seller hopes that the price of a commodity will go down. He can buy the commodity at low (market) prices and then sell it to the buyer at higher-than-market prices.
5. Know a bit about investing in property. Investing in real estate can be a risky but lucrative proposition. There are lots of different ways that you can invest in property. You can buy a home and then become a landlord. You pocket the difference between what you pay on the mortgage and what the tenant pays you in rent. You can also decide to flip homes; that's where you buy a home in need of renovations, fix it up, and sell it as quickly as possible. Real estate can be a profitable endeavor for some, but it is not without substantial risks involving property maintenance and market values.
   • Other ways of gaining exposure to real estate include Collateralized Mortgage Obligations (CMO's) and Collateralized Debt Obligations (CDO's) which are mortgages that have been bundled into a securitized instruments. These, however, should be considered tools for sophisticated investors, as the transparency and quality of these can vary greatly, as we know from their role in the 2008 downturn.
   • Some people think that home values are guaranteed to go up. Recent and long term history has shown otherwise, as real estate values in most areas show very modest rates of return, after accounting for costs such as maintenance, taxes and insurance. As with many investments, real estate values do invariably rise if given enough time. If your time horizon is short, however, property ownership is not a guaranteed investment.
   • Property ownership acquisition and disposal can be a lengthy and unpredictable process and should be viewed as a long-term, higher risk proposition. It is not the type of investment that is appropriate if your time horizon is short and is certainly not a guaranteed investment
6. Learn about mutual funds and exchange traded funds (ETF's). Mutual funds and ETF's are similar investment vehicles in that each is a collection of many stocks or bonds (hundreds or thousands in some cases). Holding individual securities is a concentrated way of investing – the potential for gain or loss is related to the single company – whereas holding a fund is a way to diversify the risk across many companies, sectors or regions. Doing so can dampen the upside potential but also serves to protect the downside risk.
   • Commodities exposure is usually done by holding the futures or a fund of futures contracts and real estate can be held directly (own a home or investment property) or in a Real Estate Investment Trust (REIT) or REIT fund, which holds a number of retail or commercial properties.

Mastering Investment Basics

1. Buy undervalued assets (buy low, sell high). If you're talking about stocks and other assets, you want to buy when the price is low and sell when the price is high. If you buy 100 shares of stock on January 1st for $5 per share, and you sell those same shares on December 31st for $7.25, you just made $225. That may seem a paltry sum, but when you're talking about buying and selling hundreds or even thousands of shares, it can really add up.
   • How do you tell if a stock is undervalued? You need to look at a company closely — its earnings growth, profit margins, its P/E ratio, and its dividend yield — instead of looking at just one aspect and making a decision based on a single ratio or a momentary drop in the stock's price.
   • The price-to-earnings ratio is a common way of determining if a stock is undervalued. It simply divides a company's share price by its earnings to determine how many times the company's earnings the price is. For example, if Company X is trading at $5 per share, with earnings of $1 per share, its price-to-earnings ratio is five. That is to say, the company is trading at five times its earnings. The lower this figure, the more undervalued the company.
   • Always compare a company to its peers. For example, assume you want to buy Company X. You can look at Company X's projected earnings growth, profit margins, and price-to-earnings ratio. You would then compare these figures to Company X's closest competitors. If Company X has better profit margins, better projected earnings, and a lower price-to-earnings ratio, it may be a better buy.
   • Ask yourself some basic questions: What will the market be for this stock in the future? Will it look bleaker or better? What competitors does this company have, and what are their prospects? How will this company be able to earn money in the future? These should help you come to a better understanding of whether a company's stock is under- or over-valued.
2. Invest in companies that you understand. Perhaps you have some basic knowledge regarding some business or industry. Why not put that to use? Invest in companies or industries that you know, because you're more likely to understand revenue models and future success. Of course, never put all your eggs in one basket, as this is highly risky. Wringing value out of an industry whose gears you understand will increase your chances of being successful.
   • For example, you may hear plenty of positive news on a new technology stock. It is important to stay away until you understand the industry and how it works. The principle of investing in companies you understand was popularized by famous investor Warren Buffett, who made billions of dollars sticking only with business models he understood and avoiding ones he did not.
3. Avoid buying on hope and selling on fear. It's very easy and too tempting to follow the crowd when investing. We often get caught up in what other people are doing and take it for granted that they know what they're talking about. Then we buy stocks when other people buy them and sell stocks when other people sell them. Doing this is easy. Unfortunately, it's probably the easiest way to lose money. Invest in companies that you know and believe in — and tune out the hype — and you'll be fine.
   • When you buy a stock that everyone else has bought, you're buying something that's probably worth less than its price. When the market corrects itself, you could end up buying high and selling low — just the opposite of what you want to do. Hoping that a stock will go up just because everyone else wants it to is foolish.
   • When you sell a stock that everyone else is selling, you're selling something that may be worth more than its price. When the market corrects itself, you've again bought high and sold low. Fear of losses may well prove to be a poor reason to dump your stock.
   • Remember, if you sell based on fear, you may protect yourself from further declines, but you also miss out on the rebound. Just like you did not predict the decline, you will not be able to predict the rebound. Stocks have historically risen over long time frames, which is why holding and not over-reacting to short-term swings is important.
4. Know the effect of interest rates on bonds. Bond prices and interest rates have an inverse relationship. When interest rates go up, bond prices go down. When interest rates go down, bond prices go up. Here's why:
   • Interest rates on bonds normally reflect the prevailing market interest rate. Say you buy a bond with an interest rate of 3%. If interest rates on other investments then go up to 4% and you're stuck with a bond paying 3%, not many people would be willing to buy your bond from you when they can buy another bond that pays them 4% interest. For this reason, you would need to knock down the price of your bond in order to sell it. The opposite situation applies when bond rates are falling.
5. Diversify. Diversifying your portfolio is one of the most important things that you can do, because it mitigates your risk. Think about it: If you were to invest $5 in each of 20 different companies, all of the companies would have to go out of business before you would lose all your money. If you invested the same $100 in just one company, only that company would have to fail for all your money to disappear. Thus, diversified investments "hedge" against each other and keep you from losing lots of money because of the poor performance of a few companies.
   • Diversify your portfolio not only with a good mix of stocks and bonds, but go further by having exposure to companies of different sizes, in different sectors in different countries, etc. Often when one class of investment performs poorly, another class performs nicely. It is very rare to see all asset classes declining at the same time.
   • Many believe a balanced or "moderate" portfolio is one made up of 60% stocks and 40% bonds. Thus, a more aggressive portfolio might have 80% stocks and 20% bonds and a more conservative portfolio might have 70% bonds 30% stocks.
6. Invest for the long run. Choosing quality investments can take much time and effort – not everyone can do the research and keep up with the dynamics of multiple companies. Many instead choose a "buy and hold" approach of weathering the storms rather than attempting to predict and avoid market downturns. This approach works for most in the long term but requires patience and discipline. There are some, however, who do choose to try their hand at being a day-trader, which involves buying and selling stock dozens, even hundreds, of times per day. Doing so, however, does not often lead to success over the long term for the following reasons:
   • Brokerage fees add up. Every time you buy or sell a stock, a middleman known as a broker takes a cut for connecting you with another trader. These fees really add up, cutting into your profit and magnifying your losses. Don't be penny-wise and pound-foolish.
   • Many try to predict what the market will do and some will get lucky on occasion by making some good calls (and will claim they "knew" so after the fact!), but research shows that this tactic does not succeed over the long term.
   • The stock market, on average, rises. From 1871 to 2014, the S&P 500's compound annual growth rate (CAGR) was 9.77%, a rate of return many investors would find attractive. The challenge is to stay invested while weathering the ups and downs to achieve this average over the long term: the standard deviation for this period was 19.60%, which means some years saw returns as high as 29.37% while others experienced losses as low as -9.83%. Set your sights on the long-term, not the short. If you're worried about all the dips along the way, find a graphical representation of the stock market over the years and hang it somewhere you can see whenever the market is undergoing its inevitable–and temporary–declines.
7. Short Sell. This can be a hedging strategy or a way to amplify your risk so it should be considered a technique to be used only by sophisticated investors. The basic concept is as follows: Instead of betting that the price of a security is going to increase, "shorting" is a bet that the price will drop. When you short a stock (or bond or currency), you're credited with an amount of money, as if you bought it. Then you wait for the stock to go down. If it does, you "cover," meaning you buy back the shares at the current (lower) price. The difference between the amount credited to you in the beginning and the amount you paid at the end is your profit.
   • Short selling can be dangerous, because it's no easier to predict a drop in price than a rise. If you use shorting for the purpose of speculation, be prepared to get burned. Stock prices often go up, and in such cases you would be forced to buy back stocks at a higher price than what was credited to you initially. If, on the other hand, you use shorting as a way to hedge your losses, it can actually be a good form of insurance.
   • This is an advanced investment strategy, and you should generally avoid it unless you are an experienced investor with extensive knowledge of markets. Remember that while a stock can only drop to zero, it can rise indefinitely, meaning you can lose enormous sums of money through short-selling.

Starting Out

1. Choose where to open your account. There are different options available: you can go to a brokerage firm (sometimes also called a wirehouse or custodian) like Fidelity, Charles Schwab or TD Ameritrade. You can open accounts on the website of one of these institutions or visit a local branch and choose to direct the investments on your own or pay to work with a staff advisor. You can also go directly to a fund company like Vanguard, but will be limited only to that company's investment options. See below for additional options for finding an advisor.
   • Always be mindful of fees before opening accounts, as well as account minimums. Brokers all charge fees per trade (ranging from $4.95 to $10 generally), and many also require a minimum initial investment (ranging from $500 to much higher).
   • Currently, online brokers that have no minimum initial investment include Capital One Investing, TD Ameritrade, First Trade, TradeKing, and OptionsHouse.
   • If you want more help with your investing, there are a variety of ways to find financial advice: if you want someone who helps you in a non-sales environment, you can find an advisor in your area at one of the following sites: www.fpa.net, letsmakeaplan.org, www.napfa.org, garrettplanningnetwork.com. You can also go to your local bank or financial institution; however, many of these charge higher fees and require a large minimum to invest ($500,000 to $1,000,000 is common).
   • Some advisors, (like a CERTIFIED FINANCIAL PLANNER™) have the ability to give advice in a number of areas, like investments, taxes and retirement planning, while others can only take direction but not give advice, Also important to know is that not all people who work at financial institutions are bound to a fiduciary duty of putting their client's interest first. Before starting to work with someone, ask about their training and expertise, to make sure they are the right fit for you.
2. Invest in a Roth IRA as soon in your working career as possible. If you're earning taxable income and you're at least 18, you can establish a Roth IRA (if you don't already have one). A Roth IRA is a retirement account to which you can contribute up to an IRS determined maximum each year (for 2015: the lesser of $5,500 or the amount earned plus an additional $1,000 "catch up" contribution for those age 50 or older). This money gets invested and begins to grow. A Roth IRA can be a very effective investment you can make if you're just starting out and want to save for retirement.
   • You don't get a tax deduction on the amount you contribute to a Roth, as you would if you contributed to a traditional IRA; however, any growth on top of the contribution is tax-free and can be withdrawn without penalty after you turn age 59.5 or earlier if you meet one of the exceptions to the age 59.5 rule.
   • Investing as soon as possible in a Roth IRA is important. The earlier you begin investing, the longer your investment has time to grow. If you invest just $20,000 in a Roth IRA by the time you're 30 years old, and then stop investing any more money in it, by the time you're 72 you'll have a $1,280,000 investment (assuming a 10% rate of return). This example is merely illustrative. Don't stop at 30. Keep adding to your account. You will have a very comfortable retirement if you do.
   • How can a Roth IRA grow like this? By compound interest. The return on your investment as well as the reinvested dividends and interest are added to your original invested amount such that the same rate of return produces a larger profit thus accelerating the growth. f you are earning an average compound annual rate of return of 7.2%, your money will double in 10 years. This is known as "the rule of 72."
   • You can open a Roth IRA through most online brokers, as well as through most banks. If you are using a self-directed online broker, you will simply select Roth IRA as the type of account while you are registering.
3. Invest in 401K. A 401(k) is a retirement savings vehicle into which an employee can have portions withheld from his or her paycheck and receive a tax deduction in the year of the contribution. Many employers will match this contribution up to a certain percentage, so the employee must contribute at least this much to receive this "free money" that would otherwise be left on the table.
4. Consider investing mainly in stocks but also in bonds to diversify your portfolio. From 1925 to 2011, stocks outperformed bonds in every rolling 25-year period [14] While this may sound appealing from a return standpoint, it doesn't, however, come without volatility. Thus bonds should be a part of your portfolio for the sake of diversification. The older you get, the more appropriate it becomes to own bonds (a more conservative investment). Re-read the above discussion of diversification.
5. Start off investing a little money in mutual funds. A mutual fund is a group of securities bought by investors who have pooled together their money. An index fund is a mutual fund that invests in a specific list of companies of a particular size or economic sector. This type of fund tracks a particular index, such as the S&P 500 index or the Barclays Aggregate Bond index.
   • Mutual funds come in different shapes and sizes. Some are actively managed, meaning there is a team of analysts and other experts employed by the fund company to research and understand a particular region or sector. Because of this professional management, these funds generally cost more than index funds which simply need to mimic a particular index. They can be bond-heavy, stock-heavy, or invest in both equally. They can buy and sell their securities frequently, or they can be more passively managed (as in the case of index funds).
   • Mutual funds come with costs. There may be charges (or "loads") when you buy or sell shares of the fund. The fund's "expense ratio" is expressed as a percentage and is the portion charged to pay for the management of the fund. Some funds charge a lower-percentage fee for larger investments. Expense ratios generally range from as low as 0.15% (or 15 basis points, abbreviated as "BPS") for index funds to as high as 2% (200 BPS) for actively managed funds. There may also be another fee charged to offset a fund's marketing expenses.
   • Mutual funds can be purchased through nearly any brokerage service.
6. Consider Exchange Traded Funds in addition to or instead of mutual funds. Exchange Traded Funds (or ETFs) are very similar to mutual funds in the sense that they are also groups of different investments. There are a few key differences:
   • ETFs can be traded on an exchange throughout the day during open market hours just like a stock, whereas mutual funds have a net asset value (NAV) calculated only at the end of each trading day.
   • ETFs can be more tax-efficient in that they typically have fewer taxable events and capital gains to pass on to investors than do mutual funds.
   • Mutual funds have been around a lot longer than ETFs. At the time ETFs came about, many of them were index funds, while many mutual funds were actively managed. Thus, most ETFs had far cheaper expense ratios than did mutual funds. Today the ETF universe has expanded to much broader choices including actively managed, sector and leveraged versions. Mutual funds, similarly, now have index offerings as well as the traditionally actively managed ones.

Making the Most of Your Money

1. Consider using the services of a financial planner or adviser. Many planners and advisers require that their clients have an investment portfolio of at least a minimum value, such as $100,000 or more. This means it could be hard to find an adviser willing to work with you if your portfolio isn't very established. In that case, look for an adviser interested in helping smaller investors.
   • How do financial planners help? Planners are professionals whose job it is to invest your money for you, ensure that your money is safe, and guide you in your financial decisions. They draw from a wealth of experience at allocating resources. Most importantly, they have a financial stake in your success: the more money you make under their tutelage, the more money they make.
2. Buck the herd instinct. The herd instinct, alluded to earlier, is the idea that just because a lot of other people are doing something, you should, too. Many successful investors made moves that the majority thought was unwise at the time.
   • Invest in smart opportunities when other people are scared. In 2008 as the housing crisis hit, the stock market shed thousands of points in a matter of months. A smart investor who bought stocks as the market bottomed out enjoyed a strong return when stocks rebounded.
3. Know the players in the game. Which institutional investors think that your stock is going drop in price and have therefore shorted it? What mutual fund managers have your stock in their fund, and what is their track record? While it helps to be independent as an investor, it's also helpful to know what respected professionals are doing.
   • There are websites which compile recent opinions on a stock by analysts and expert investors. For example, if you are considering a purchase of Tesla shares, you can search Tesla on Stockchase. It will give you all the recent expert opinions on the stock.
4. Re-examine your investment goals and strategies often. Your life and the conditions of the market change all the time, so your investment strategy should change with them. Never be so committed to a stock or bond that you can't see it for what it's worth. While money and prestige may be important, never lose track of the truly important, non-material things in life: your family, friends, health, and happiness.
   • For example, if you are very young and saving for retirement, it may be appropriate to have most of your portfolio invested in stocks or stock funds. This is because you would have a longer time horizon in which to recover from any big market crashes or declines, and would be able to benefit from the long-term trend of markets moving higher.
   • If you are just about to retire however, having much less of your portfolio in stocks, and a large portion in bonds and/or cash equivalents is wise. This is because you will need the money in the short-term, and as a result, you do not want to risk losing the money in a market crash right before you need it.

Tips

• One of the most painless and efficient ways to invest is to dedicate a portion of each paycheck to regular contributions to an investment account. Doing so can provide two great advantages:
  • Dollar-cost averaging: by saving a specific dollar amount monthly, you purchase more shares of an investment when the share price is lower and fewer shares when the price is higher.
  • A disciplined savings plan: having a portion withheld from your paycheck is a way of putting money away before you have the chance to spend it and can translate into consistent saving habits.
  • The "Miracle" of Compounding: Continually adding to your initial investment means you enjoy a rate of return on a growing nest egg for your future.

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See also

• Invest in Mutual Funds
• Buy Exchange Traded Funds
• Hedge in Investments
• Invest when Retired
• Find Help With Investing
• Make Money in Commodities
• Calculate Annuity Payments
• Calculate Annual Salary
• Invest
• Get Rich

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