Investing in stocks: The basics
Investing in the stock
market is a long game. A good rule of thumb is to have a diversified investment
portfolio and stay invested, even when the market has ups and downs. One of the
best ways for beginners to get started investing in the stock market is to put
money in an online investment account, which can then be used to invest in shares
of stock or stock mutual funds.
WHAT IS DOLLAR-COST AVERAGING?
With many brokerage
accounts, you can start investing for the price of a single share. Some
brokers also offer paper trading, which lets
you learn how to buy and sell with stock market simulators before you invest
any real money.
How to invest in stocks
in six steps
1. Decide how you
want to invest in the stock market
There are several ways
to approach stock investing. Choose the option below that best
represents how you want to invest, and how hands-on you'd like to be in
picking and choosing the stocks you invest in.
A. "I'd like to choose stocks and stock
funds on my own." Keep reading; this article breaks down things
hands-on investors need to know, including how to choose the right account for
your needs and how to compare stock investments.
B. "I'd like an expert to manage the process
for me." You may be a good candidate for a robo-advisor, a service
that offers low-cost investment management. Virtually all of the major
brokerage firms and many independent advisors offer these services, which
invest your money for you based on your specific goals.
C. “I’d like to start investing in my
employer’s 401(k).” This is one of the most common ways for beginners to
start investing. In many ways, it teaches new investors some of the most proven
investing methods: making small contributions on a regular basis, focusing on
the long-term and taking a hands-off approach. Most 401(k)s offer a limited
selection of stock mutual funds, but not access to individual stocks.
Once you have a preference in mind, you're ready to shop for an account.
2. Choose an investing
account
Generally speaking, to
invest in stocks, you need an investment account. For the hands-on types, this
usually means a brokerage account. For those who would like a little help,
opening an account through a robo-advisor is a sensible option. We break
down both processes below.
An important point: Both
brokers and robo-advisors allow you to open an account with very little money.
The DIY option: Opening
a brokerage account
An online brokerage
account likely offers your quickest and least expensive path to buying stocks,
funds and a variety of other investments. With a broker, you can open an
individual retirement account, also known as an IRA, or you can open a taxable
brokerage account if you’re already saving adequately for retirement in an
employer 401(k) or other plan.
We have a guide to opening
a brokerage account if you need a deep
dive. You'll want to evaluate brokers based on factors such as costs
(trading commissions, account fees), investment selection (look for a good
selection of commission-free ETFs if you favor funds) and investor research and
tools.
The passive option:
Opening a robo-advisor account
A robo-advisor offers the benefits of stock investing, but
doesn't require its owner to do the legwork required to pick individual
investments. Robo-advisor services provide complete investment
management: These companies will
ask you about your investing goals during the onboarding process and then build
you a portfolio designed to achieve those aims.
This may sound
expensive, but the management fees here are generally a fraction of the cost of
what a human investment manager would charge: Most robo-advisors charge about
0.25% of your account balance. And yes — you can also get an IRA at a
robo-advisor if you wish.
One thing to note is
that although robo-advisors are relatively inexpensive, read the fine print and
choose your provider carefully. Some providers require a certain percentage of
an account to be held in cash. The providers generally pay very low interest on
the cash position, which can be a major drag on performance and may create an
allocation that is not ideal for the investor. These required cash allocation
positions are sometimes more than 10%.
If you choose to open an
account at a robo-advisor, you probably needn't read further in this article —
the rest is just for those DIY types.
3. Learn the difference
between investing in stocks and funds
Going the DIY route?
Don't worry. Stock investing doesn't have to be complicated. For most people,
stock market investing means choosing among these two investment types:
Stock mutual funds or
exchange-traded funds. Mutual funds let you purchase small pieces of many
different stocks in a single transaction. Index funds and ETFs are a kind of
mutual fund that track an index; for example, a Standard & Poor’s 500 fund
replicates that index by buying the stock of the companies in it. When you
invest in a fund, you also own small pieces of each of those companies. You can
put several funds together to build a diversified portfolio. Note that stock
mutual funds are also sometimes called equity mutual funds.
Individual stocks. If you’re after a specific company, you can buy
a single share or a few shares as a way to dip your toe into the stock-trading
waters. Building a diversified portfolio out of many individual stocks is
possible, but it takes a significant investment and research. If you go this
route, remember that individual stocks will have ups and downs. If you research
a company and choose to invest in it, think about why you picked that company
in the first place if jitters start to set in on a down day.
The upside of stock
mutual funds is that they are inherently diversified, which lessens your risk.
For the vast majority of investors — particularly those who are investing their
retirement savings — a portfolio made up of mostly mutual funds is the
clear choice.
But mutual funds are
unlikely to rise in meteoric fashion as some individual stocks might. The
upside of individual stocks is that a wise pick can pay off handsomely, but the
odds that any individual stock will make you rich are exceedingly slim.
4. Set a budget for your
stock market investment
New investors often have
two questions in this step of the process:
How much money do I need
to start investing in stocks? The amount of money you need to buy an individual stock depends on
how expensive the shares are. (Share prices can range from just a few dollars
to a few thousand dollars.) If you want mutual funds and
have a small budget, an exchange-traded fund (ETF) may be your best bet.
Mutual funds often have minimums of $1,000 or more, but ETFs trade like a
stock, which means you purchase them for a share price — in some cases, less
than $100).
How much money should
I invest in stocks?
If you’re investing through funds — have we mentioned this is the preference of
most financial advisors? — you can allocate a fairly large portion of your
portfolio toward stock funds, especially if you have a long time horizon. A 30-year-old
investing for retirement might have 80% of their portfolio in stock funds; the
rest would be in bond funds. Individual stocks are another story. A general
rule of thumb is to keep these to a small portion of your investment portfolio.
5. Focus on investing
for the long-term
Stock market investments
have proven to be one of the best ways to grow long-term wealth. Over several
decades, the average stock market return is about 10% per year. However,
remember that’s just an average across the entire market — some years will be up,
some down and individual stocks will vary in their returns.
For long-term investors,
the stock market is a good investment no matter what’s happening day-to-day or
year-to-year; it’s that long-term average they’re looking for.
Stock investing is
filled with intricate strategies and approaches, yet some of the most
successful investors have done little more than stick with stock market basics.
That generally means using funds for the bulk of your portfolio — Warren
Buffett has famously said a low-cost S&P 500 index fund is the best investment most Americans can make
— and choosing individual stocks only if you believe in the company’s potential
for long-term growth.
The best thing to do
after you start investing in stocks or mutual funds may be the hardest: Don’t
look at them. Unless you’re trying to beat the odds and succeed at day trading, it’s good to avoid the habit of compulsively
checking how your stocks are doing several times a day, every day.
6. Manage your stock
portfolio
While fretting over
daily fluctuations won’t do much for your portfolio’s health — or your own —
there will of course be times when you’ll need to check in on your stocks or
other investments.
If you follow the steps
above to buy mutual funds and individual stocks over time, you’ll want to
revisit your portfolio a few times a year to make sure it’s still in line with
your investment goals.
A few things to consider: If you’re approaching retirement, you may want to move some of your stock investments over to more conservative fixed-income investments. If your portfolio is too heavily weighted in one sector or industry, consider buying stocks or funds in a different sector to build more diversification. Finally, pay attention to geographic diversification, too. Vanguard recommends international stocks make up as much as 40% of the stocks in your portfolio. You can purchase international stock mutual funds to get this exposure.
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