It is important that beginning investors have the right frame of mind as they get started. In this article, we’ll identify the most important characteristics of the market and of successful investors.
1. Understand that the stock market is forward looking
It reflects what investors think the world will look like six to 12 months from now. This isn’t as mysterious as it seems. Let’s say that you believe Apple will come out with the revolutionary iPhone 99 about 6 months from now. You begin to watch Apple’s stock. Over the months leading up to the release of the new phone, the stock price marches higher. You could buy Apple’s stock the day before the new iPhone’s release, but Apple’s share price probably won’t move much that day. Why? As you’ve probably figured out, the community of investors was gradually bidding Apple’s share price higher in anticipation of the new phone. On the day of the new phone’s release, the increased sales and profits the new phone is expected to bring have already been “priced into the stock.” You have to invest now for what you envision taking place a while from now.
2. Begin assessing your personal tolerance for risk
Corporations are not all alike. In fact, there’s a whole area of Investeach dedicated to helping you understand the different types of businesses you can invest in. For example, a corporation that sells basic foods is very different from a biotechnology company that is working on an experimental cancer drug. If your investments are keeping you up at night, then they exceed your risk tolerance. The good news is that among the thousands of publicly traded corporations there are attractive ones that match your tolerance for risk.
3. Make a trial run before putting real money at risk
You can do this two ways:
Use the portfolio tracking feature of financial sites. If you spend some time on financial sites and get several stock quotes, somewhere on the page will be a list of the stocks you’ve recently looked up. In that area, there’s likely to be a button that lets you save them all to a portfolio. Once you’ve done this, you can enter the current price and number of shares you would have purchased had you used real money. You can watch over time as the prices of your picks change and how much you would have gained or lost.
Join a stock market game. These games give you a certain amount of money to grow over a specified time. The only thing that’s not real about them is the cash you begin with.
4. Don’t check your stocks on your cell phone all day, every day!
On any given day, week or month, markets can move up and down. The gyrations can be truly crazy-making if you try to make sense of them. So don’t. In the short term, a corporation’s stock price can go any which way. In the long term, the price will be right where it should be, meaning that if the corporation is becoming more successful its stock price will move higher. Instead of jumping in and then back out if a newly bought stock falls for several days, sit tight and see what happens over the course of months while monitoring what’s happening with the corporation. If it’s doing well, its share price will eventually move higher. Hopefully, you’ll gain the valuable trait called patience sometime over the course of your trial investing. It’s nearly impossible to invest successfully if you don’t have patience, so continue managing virtual money until you feel you’ve developed a long-term perspective.
5. Avoid getting caught up in the madness that is the 24/7 news cycle
Before the advent of the Internet and cable television, financial news and information was available only to those who sought it out. Now, it’s in our face 24/7. There’s not too little information available, but too much! In this environment, how do media outlets compete for our attention? By becoming more sensational than ever. Whether it’s a guest on a financial show who persuasively explains why the U.S. will collapse in the next 90 days or an article that warns “The One New Development That Could Destroy Google”, we risk feeling compelled to react, to press the Sell button to avoid a loss or the Buy button so we don’t miss out on the next great opportunity. But, the sensationalism only throws us off our game. Better to calmly read rational stories from reliable sources and think about the implications of what we’ve read. And for heaven’s sake, turn the TV off!
6. When opening a real brokerage account, beware of commissions (aka transaction costs)
With the advent of the Internet and the competition that exists for your investment dollars, the commission brokers charge has dropped significantly. Generally, the commission is $5 to $10 per trade. While these numbers are very reasonable, even they can present a problem for a beginning investor who only has a small amount of money.
Let’s say you open your account with $1,000. You want to diversify by placing $200 into the shares of five different companies. The self-directed broker you use charges a $5 commission when you make a purchase and another $5 when you sell. Divide $200 into $5 and you’ll see that the commission rate is 2.5%. Your stock has to go up that much just for you to break even. At the time of sale, you’ll pay another $5 (although if you own a great company this might not happen for years). The point here is that if you are not investing a lot of money in any one corporation, the percentage commission can be high.
7. Set your horizon way, way out there
Investing is a lifelong pursuit. The reason is that as we work and are paid, we invest a portion of our earnings. We’re continually investing. Even when we retire and begin spending some of our accumulated wealth, the remainder stays invested.
8. Don’t feel bad if you realize that actively managing your investments is just not for you!
You might have an impression that it’s cool to be an investor. It is, but successful ones put in the work. They constantly do research. They are always educating themselves. You’d be amazed how much time it takes to stay on top of what’s going on with economies around the world, with the financial markets, with our elected officials in Washington, D.C., and of course, with the corporations whose stock you own.
If you’re not passionate about learning the intricacies of investing and/or can’t put in the time required to stay on top of the news, put your energies into something you really love! You can still grow your wealth in any of the following ways:
- subscribe to a reputable investing newsletter that carefully evaluates companies and recommends those it believes are poised to do well
- invest in the overall stock market with low-cost Exchange Traded Funds (ETFs). You will still have ups and down, but if the U.S. and other major economies do well over time, so will you.
- invest in portfolios designed to be on “auto pilot”, such as the “Gone Fishing” portfolio developed by industry veteran Alexander Green. You invest in the portfolio of different types of assets in different parts of the world, and then leave it alone!
- use one of the growing number of brokers who offer a “robo advisor” service, an automated system that will spread your money over a customized mix of investments, all for a low annual fee.
- turn your money over to professional money managers who will invest it for you. The downside here, however, is that they don’t work for free. To truly earn their compensation, they must achieve market-beating results.
Riddle me this:
1. When agreeing on a fair current value for a stock, what is the community of investors incorporating into their assessment?
2. How will an investor know that he or she owns a portfolio of stocks that is too risky for him or her?
3. How can we avoid suffering real losses when we start investing and are not very knowledgeable?
4. What important investing characteristic can only be developed and demonstrated over time?
5. What is the trouble with getting sucked into the mania surrounding the daily ups and downs of the markets and the stocks in it?
6. Because we are not allowed to buy stock directly from investors who want to sell, what type of firm do we use to place our buy and sell orders for us?
7. Why do most people invest continuously throughout their working years and even into retirement?
8. If we realize we’re just not cut out to be active investors, what alternatives can we use to build financial wealth?