Investing

Investing 101: A Beginner’s Guide to Investing Strategies

How to Invest Without Becoming Obsessed

Even though it sounds like you need a college degree for it, investing is a lot less scary if you learn the basics first. So, even if you’re just a high school graduate, it can still become your career. All you have to do is be confident and create a plan that will lead you through life.

Why Does it Sound Scary?

It all comes down to our family life and our childhood. People who grew up in poor households are usually scared to talk about money and investments. Meanwhile, those that are well-off are also confused because their parents can rarely give them financial advice that makes sense.

The times have also changed, and what was normal once, it’s not anymore. Your parents are probably encouraging you to buy a house when there’s a housing bubble. But, they think that’s a good idea because, in their time, prices only went up – and almost never down.

Nevertheless, your first investment will be the hardest one you’ll make.

What is the Point of Investing?

When it comes to money, everyone has a different goal in mind. As you get older, your opinions change, and your confidence grows. So, by the time you’re ready to invest, you’ll know which path to follow.

However, there’s one basic goal you should keep in mind – safe and stable retirement. By working hard and curbing your spending habits, you can invest that money difference into assets that will give you more money. Thus, by the time you retire, you’ll have something that’s making you enough cash to live comfortably.

It’s vital to work hard for your goal. If you think that investing is just a simple way of earning extra cash, then you can stop reading this article right now. However, if you want to retire at a reasonable age, you’ll have to learn how to spend less and use that money for different investments.

The goal doesn’t include selling any investments. Wealthy people don’t do that because they would only lose money that way. Instead, they invest in assets that bring them enough cash flow for their comfortable lifestyle. And, the best part is that you can also pass down these assets to your descendants. Now that’s a goal you should strive to achieve.

Types of Investments

People usually start by investing in stocks and bonds. When you buy a stock, you become a partial owner of the company. Meanwhile, a bond is an indebtedness security, and mutual funds actually own bonds or stocks instead of you. Whichever you pick, the choice will depend solely on your financial circumstances and needs.

But, there are other ways as well. You can invest in REITs – real estate investment trusts. Nevertheless, when you are a beginner, it’s best to focus on the funds, as well as on the bonds and stocks they hold.

Having said that, it’s vital to know if you should invest if you have any sort of debt. Credit card debt, student loans, and mortgage debts are all factors you should consider because it might be futile to invest if you’re indebted.

Debt Pay Off vs. Investing

It’s needless to say that you should cover at least the minimum debt payments before you start investing. However, there are other choices if you have some leftover money from your paycheck:

1. Pay off all your debts.

You should consider your interest rate. If it’s more than 10%, you shouldn’t invest. Instead, use that money to eliminate the debts. Why? Well, because the stock market is volatile, and there’s never a guarantee. But, your debt is quite real, and if you don’t pay it off, it can lead to bankruptcy.

2. Use the money to invest in funds, bonds or stocks.

If your interest rate is less than 5%, then it makes sense to invest. It would serve you well in the future to have some extra money lying around. However, investing in bonds might not be that useful. Even if the interest rate is higher than your debt rate, it might not be a good investment after all. Therefore, choose your securities wisely.

3. Do both at the same time.

Benjamin Graham gave all investors, including Warren Buffett, a great piece of advice about investment money. He said that it would be better if you held on to no more than 75% of the total amount in a single asset class. Thus, you can use that same logic and figure out how much money you can actually invest.

If your debt has a low-interest rate, then you should use about 25% of your additional income to pay it off. Meanwhile, you can use what’s left for stocks. However, if investing becomes too expensive (fund and stock prices might go up), then 75% of the additional income should go to the debts. The remainder – 25% – should go to stocks.

Needless to say that you should just pay off your debts if they have a high-interest rate. And, if the situation is a bit more complex than that, then a financial adviser could help you out. They will know how to solve your debts, and they will also give you investment ideas that will bring you more money.

Saving vs. Investing

Before you start to invest, it’s vital to resolve some of the issues you might have. You ought to be employed, and you also need to have insurance coverage. The personal debts you’ve made should be under control, and if you lose your job, you should have an emergency savings fund to soften the blow.

Saving money is not the same thing as investing. If you lose your job, and you don’t have an emergency fund, you’ll have to sell your investments. Thus, all your efforts will be futile.

Lifetime Investing 101

We will now explain two long-term strategies. However, bear in mind that they naturally assume that you’ll continue to hold down a job in the next few decades.

The first one is a minimal effort strategy, while the second one might seem like that as well. But, it’s actually a bit more complex, and you will need to learn more about investing to implement it.

1. Mutual Funds & Margin of Safety Strategy

Jack Bogle is an educator (and the Vanguard Group founder) who has spent a part of his life explaining how you can use cheap no-load index mutual funds to build your wealth. The main idea behind it is to implement dollar-cost averaging, which means regularly buying the same dollar amount of a specific fund.

Thus, you don’t have to time your purchases, and it is more likely that your average purchase price will show the real value.

But, if you’re unemployed, you cannot use this strategy. You won’t be able to buy stocks when they are dirt cheap. For example, in 2006 and 2007, most investors were spending parts of their paychecks on stocks. By the time the financial crisis rolled in, they didn’t have enough money to buy cheap stocks. Thus, they missed a fantastic chance.

There is an easy solution for this, though. You can establish an investment reserve fund – sort of like an emergency fund, but for your investments. If you add at least $100 per week to it, by the time you reach $2,400, you’ll have enough money to freely invest for about six months.

If you feel bad because you have to part with the money, then you should curb those feelings. The most affluent investors are emotionally detached – and that’s why they often make small investments.

Here’s a practical example for you (bear in mind that it refers to dividend reinvestment). Let’s say that you have $6,000 and you want to invest in the VTSMX (Vanguard Total Stock Market Fund). If you invested the total sum in September of 2007, you would have $290 more by August of 2012.

But, if you decide to invest just $100 per month, that investment grows a lot more. So, by 2012, it would have increased to about $7,689. Thus, the solution is obvious: go slow, and you’ll easily win the race.

Mutual Funds – A Warning

There’s one more thing you should know. If you are planning to invest in a low-cost mutual fund, then you probably already know that the initial investment is sometimes quite high. It’s usually between $3,000 and $5,000. Hence, it would be wise to find a mutual fund that has a low initial investment, even if it has high expenses.

But, some poor-quality funds are counting on that, and they will try to attract you with their low initial investment. Don’t get fooled – look what the high-quality providers are offering. Check out Fidelity, Vanguard, and Charles Schwab.

2. Buy and Hold Strategy

Just like Benjamin Graham said – it’s far easier to achieve decent investment results than the superior ones. Achieving superior results is often trickier than it might look.

That statement is true even today, even though most ignore it for regular “stock picking.” Small investors are after the psychological reward, even if it eats up their gains.

For example, if you buy stocks worth $500, you can subtract the $10 broker commission immediately. Then, you might be able to sell the stocks when they experience a 4% rise. But, you’ll have to pay the commission fee again, thus earning nothing.

Winning trades can eat up your gains because you have to pay taxes and various transaction costs. Not to mention that you’ll have to go against computer programs and PhD-level math experts who are just waiting to pick your pockets.

So, what can you do? Well, there’s a huge value in the buy and hold strategy. And, that value increases if the stocks are paying dividends to you for a great number of years. Reinvesting dividends is the right way to go because it could lead to incredible results. And, most of the time, dividend reinvestment is a free service offered by many online brokers.

Buy and Hold Strategy Still Exists

One fantastic example of this strategy is the Corporate Leaders Trust. This mutual fund has never given up on the stocks it holds, even though it’s about the same age as Warren Buffett.

A $10,000 investment in the LEXCX in 1935 would be worth millions today. And, during the past decade, it has outperformed the likes of Berkshire-Hathaway and S&P 500 – pretty amazing, if you ask us. Thus, it’s no wonder it always has a Morningstar five-star rating.

The CFA, Kevin McDevitt, explained the fund’s aim in its 75-year birthday message. He said that they had long-term investments in mind, which meant that they had to find blue-chip stocks that would thrive over the years. That sort of thinking was influenced by fundamentals of a company – not the earnings projections. Thus, if you find reasonably-priced stocks with dividend payouts from reputable brands, you will amass wealth just by holding onto the stocks. People will continue using those products, which means that you will never have to worry about the company going under.

It sounds a lot easier than it actually is, but it’s worth considering.

How to Invest Without Losing Your Money

The first thing you should do is learn how to determine the company’s value. If it makes sense to buy the whole company, then becoming a partial owner will also sound reasonable.

There’s a bit of math included in all that, but in time, you’ll get the hang of it. You should learn as much as you can about the company you’re planning to invest in – and that includes reading the financial statements as well. However, in the end, it all comes down to one thing: how long would it take for you to return your initial investment if you bought the whole company and all its debts? Also, assume that you would, in this situation, collect 100% of the profits until the end of time.

When you understand it like this, you will realize why a $1 stock is not that cheaper than a $50 one. But, now the plot thickens.

It’s easy to do it this way if you’re sure that the company will generate steady profits in the future. However, products come and go, and that especially applies to the tech sector. Nokia was once the king of mobile phones, and Apple was then just a $7 stock. Now, the situation is a lot different.

So, you have to think about the products as well. If nobody will use them in the future, and nobody is using them now, then why invest in them? Also, investing in companies you don’t believe in is a futile strategy. If you hate cigarettes, investing in tobacco companies will make you feel even worse.

Lastly, remember to diversify. Even if some of your stocks fail, one fantastic investment can cover all your losses. And, if you don’t overpay in the beginning, and hold on to your diverse set of about 30 stocks, you will experience grand results.

Then again, if this all sounds complicated to you, you can always purchase a mutual fund. Thus, you can own the entire stock market, and avoid the potential investing research headaches. It all comes down to the amount of free time you have.

Build Your Investing Knowledge

Investing requires a lot of patience, money, and confidence. That will make or break your investing career, so you should always strive to learn more about it. Here is a reading list you can start with:

 

  1. “The Intelligent Investor” by Benjamin Graham. Even though this is a fantastic investing book by itself, the writing style might bother you. So, you can always read the “The Rediscovered Benjamin Graham” which consists of lectures and interviews.

 

  1. Warren Buffett’s annual letters. The investor writes these every year, and you can download them for free from the Berkshire-Hathaway website.

 

  1. Joshua Kennon from About.com. Kennon knows how to explain both the basic and the more advanced concepts about finance. What’s more, he knows how to clarify a successful person’s view about money.

 

  1. If you want to know the bare facts, then you ought to read something from Morgan Housel of The Motley Fool. Meanwhile, if you’re interested in the individual stock analysis, “Crossing Wall Street” blog by Eddy Elfenbein is a must.

 

  1. TheStreet investment guides. These guides first appeared in 1996, and they are a fantastic source of knowledge for beginners. By reading them, you can learn more about the basics and all the essential financial terms. But, if you are a bit more advanced, their daily stock ideas are also worth checking out.
Posted by Judy Romero in Investing

How to Pick Your First Broker

Truth be told, one can start investing even without a brokerage account. When you are a young investor, choosing a perfect broker for yourself can often be much different than it would be for experienced investors of the same level of experience. You choose a broker in a similar way as you choose a stock – with a lot of careful consideration, as not all investors require the same brokers.

What Is a Broker?

Before choosing one for yourself, you should know what a broker actually is. Basically, we have two kinds of brokers: ones who are engaged directly with clients (regular brokers), and ones who function as mediators between a larger broker and a client (broker-resellers).

Regular brokers are usually believed to be more respectable than broker-resellers. That doesn’t mean that resellers are bad, but you should learn a bit more about their ways before you sign up with them. Regular brokers such as TD Ameritrade, Ally Invest, Fidelity, and Capital One Investing belong to recognized organizations. For example, they are members of the FINRA (Financial Industry Regulatory Authority) and the Securities Investor Protection Corporation.

Full-Service Vs. Discount Brokers

Let’s break it down even further and learn the distinction between discount brokers and full-service brokers. You might have guessed from the name – full-service brokers provide significantly more services than discount brokers. But, the services aren’t exactly cheap. When you hire a full-service broker, he will do much of the legwork for you, giving you plenty of one-on-one advice and customized suggestions and research.

When it comes to discount brokers, many of them will provide the option to request a broker solely for advice on a specific trade with your current brokerage account. Be cautious, though, because once you execute that trade, you will end up paying considerably more (in execution fees) after having consulted with an actual broker than you would with a plain online trade.

If you are a young investor, it is probably your best bet to go with discount brokers. Although some people advise new investors to hire full-service brokers, that’s not financially feasible for a young person who has just started investing. Moreover, many investors have used online discount brokers in recent years. They provide various tools suitable for inexperienced investors who aren’t always sure what their next step should be. Also, when you start slowly, you’ll be able to learn much more about investing if you do some of the work on your own.

Fees and Costs

Although trade executions fees are important, there are other types of brokerage fees one should take into account as well. Most people under 30 are limited by their budget. Before investing, it is essential that you look at the fees that could apply to you. By doing that, you will make sure that you get the most of the money you invest. Here are some examples of additional costs you should consider.

Minimums

To start a brokerage account, most brokers require minimum balances. With an online discount broker, the number usually ranges between $500 and $1,000.

Margin

New investors often don’t want to open a margin account straight away, but it’s something to consider in the future. The minimum balance is normally higher for margin accounts. Also, be sure to take a look at the interest your broker will charge you when you make a trade on margin.

Withdrawal

Even though the money belongs to you, it isn’t always easy to get it out of your account. Some brokers will charge you to make a withdrawal. Furthermore, they might not let you take any money if it will drop your balance below the minimum. With some accounts, you can write checks from them, but those normally require a much higher minimum balance. You should have a good understanding of the rules regarding the withdrawal of your money from your account.

Complicated Fee Structures

Even though the majority of brokers have comparable fee schedules, some have complicated fee structures. These structures can make it hard to spot hidden fees. Complex fee structures are typical among broker-resellers who might use them as a selling point to attract clients.

If your potential broker has an unorthodox fee structure, it’s even more important to confirm that he is legitimate. He has to look out for your interests, and his fee structure has to complement your investing style. When the rates seem too good to be true, they might be. Be sure to read about fee summaries and your account agreement thoroughly. Additional fees can be hidden there.

What Kind of Investor Are You?

The answer to this question should affect the selection of your broker. There isn’t one perfect broker for everyone. So, it might be smart to determine your investment style before you start to invest.

The Trader

If you don’t hold onto stocks for long periods of time, you are a trader. Traders are typically interested in dirty and quick gains that are based on short-term price volatility. Also, they make a lot of trade executions in a short amount of time. If this is how you envision yourself, search for a broker with low execution fees. Otherwise, your returns could be eaten up by high trading fees. You should know that active trading requires experience. Frequent trading and a new investor are often a match that results in negative returns.

The Buy-and-Hold Investor

A buy-and-hold investor, also known as a passive investor, holds onto stocks for the long term. They let the value of their position increase in worth over longer periods of time and then reap the benefits sometime later. Buy-and-hold investors’ main concern is staying away from brokers with monthly fees. A somewhat higher trade commission shouldn’t concern them.

Other Factors to Consider

If you find that your investment style falls between a buy-and-hold investor and an active trader, you are not the only one. In this case, additional factors will be crucial when picking the best broker for yourself. For example, an extremely young investor (a minor) won’t be able to open his own brokerage account. But, some brokers have made it possible to set up custodial accounts and thus offer fee structures that suit teenagers. This way, people can start investing at a young age.

The Bottom Line

There will come a time when you’ll have to make a decision and choose a broker. It is essential to balance your needs as a client and as an investor. Another thing that is crucial is good customer service.

Your first broker doesn’t have to be your broker forever. However, you will have a much better shot at making money as an investor if you take your time and do your research before choosing the right one.

Posted by Judy Romero in Investing