How to Invest in Stocks in 2022
How to Get Started with Stock Market Investing
Leaving your money in a conventional checking or savings account is going to generate less than 1% in annualized interest. In the US, for example, the average interest rate paid by traditional banks stands at a measly 0.05%. This means that by stashing $10,000 away - you would make just $5 per year!
On the other hand, had you invested the same amount into the S&P 500 five years prior to writing this article - your $10,000 would now be worth over $17,000. Then you have individual performers like Tesla - which in the first 11 months of 2020 alone has seen its stocks increase by over 580%.
Crucially, the key point here is that by creating a long-term stock market investment plan, you stand the chance to grow your wealth at a much faster rate than simply leaving your money in the bank.
With this in mind, this Beginner’s Guide on How to Invest in the Stock Markets will tell you everything you need to know to achieve your financial goals.
Step 1: Assess Your Starting Capital
First and foremost, you need to take a step back and think about how much money you have to invest in the stock markets. In a time not so long ago, minimum investments were on the high side.
For example, brokerage firms would often require a minimum purchase of at least 10 stocks. Buying Amazon shares at their current price of $3,000-ish, for example, would have required a capital outlay of $30,000.
Fortunately, the growth of online broker platforms that are targeted exclusively to retail clients means that minimum investments are often a thing of the past. At the forefront of this is ‘fractional ownership’.
In a nutshell, brokers that offer such a service allow you to buy a ‘fraction’ of one share. For example, if Visa stocks are priced at $220 and you invest $22 - you would own 10% of a single share.
Not only does this allow you to invest in the stock markets in an affordable manner - but it’s perfect for creating a highly diversified portfolio. More on this later.
Step 2: Create a Regular Investment Plan
Once you have assessed how much you plan to invest when you first open a brokerage account, you should then consider an ongoing, consistent investment plan.
In its most basic form, this might see you invest $100 into the stock markets when you receive your monthly paycheck. As we uncover in more detail later, this allows you to reap the rewards of ‘dollar-cost-averaging’.
Even more importantly, your money will continue to grow over many, many years. For example, let’s suppose that you invested $10,000 into the stock markets as a lump sum.
If your investment yielded an average annualized return of 8% - in 30 years your $10,000 would be worth $100,000. Not bad. But, if you repeated the same scenario while also adding $100 each month, the end result would see your capital grow to $247,000.
Step 3: Open an Online Brokerage Account
The main prime here is that you will need to open an account with the provider, deposit some funds, and then pick which stocks you want to buy. However, it’s pretty easy to separate the wheat from the chaff when choosing a brokerage site.
For example, you’ll want to opt for a user-friendly platform that offers low fees. You’ll also want to ensure the platform supports fractional ownership and that it gives you access to your desired stocks or funds.
Additionally, the platform needs to have a strong regulatory standing, top-notch customer support, and allow you to deposit funds with your preferred payment method.
Some platforms that are super-popular in the online brokerage space are listed below:
- eToro - Buy stocks and ETFs commission-free. Access to almost 1,800 shares from 17 international exchanges. Very user-friendly. The minimum stock investment is $50.
- Robinhood - Popular US trading site and mobile app. Commission-free stocks and perfectly suitable for newbies. Strong focus on US-listed stocks.
- Stash - Another popular US-based investment app. Buy fractional shares from just $5 and no account minimums. The monthly fee starts from $1.
In order to get started with your chosen brokerage site, you will need to provide some personal information and contact details. The provider will also need to verify your identity - so you’ll likely be asked to upload some government-issued ID.
Then, you will need to make a deposit. Some platforms only support bank transfers while others - such as eToro, also allow you to use a debit/credit card or e-wallet. Once your brokerage account is funded, you are then ready to make your first stock market investment.
Step 4: Choosing Which Stocks to Invest in
Once you have a funded brokerage account, you then need to determine which investments you plan to make. This is generally a choice between picking individual stocks yourself or opting for a fund.
If going with the former, you need to justify the reasoning behind your stock investments. For example, you might decide to invest in Tesla because you believed its electric cars will play a major role in the future of domestic travel.
Or, you might add some Netflix stocks because you think that eventually, its content streaming model will slowly but surely overtake traditional TV and cable. With that said, choosing which stocks to invest in isn’t as simple as this.
Seasoned investors will perform in-depth research on the company in question - such as its financial performance and the strength of its balance sheet. Skilled investors will also look at fundamental news developments to determine how this might influence the future direction of the stock.
As such, if you’re investing in the stock markets for the very first time - you might not have the required knowledge to do this. Or, you might just not have the time to dedicate to research, and thus - you want to invest on a passive basis.
If this sounds like you, then it might be better to opt for a stock market index fund.
Step 5: Investing in a Stock Market Index
The easiest - and potentially more risk-averse way to invest in the stock markets is to stick with an index fund. For those unaware, funds will track the performance of a specific stock market.
For example, the NASDAQ 100 tracks the largest 100 company's listed on the respective exchange. Then you have the Dow Jones, which tracks 30 large US company's from various sectors and industries.
The most popular stock market index, however, is that of the S&P 500. This tracks 500 large US company's, so it’s an excellent way to gain exposure to the wider economy. Puts simply, by investing in an ETF (Exchange-Traded Fund) that tracks the S&P 500, you will be buying shares on all 500 constituents.
The ETF provider will also weight its portfolio to ensure it mirrors the index like-for-like. For example, at the time of writing, Microsoft carries a weighting of 5.6% on the S&P 500. Then you have Apple and Amazon, which carry a weight of 5% and 4.2%, respectively.
The weighting system employed by the S&P 500 is largely based on market capitalization. Therefore, continents listed towards the end of the index have a significantly smaller valuation than those at the top.
Using the same weightings listed above, this is what your S&P 500 investment would look like in dollars and cents:
- You invest $1,000 into an S&P 500 ETF - opting for Vanguard.
- $56 of your portfolio is held in Microsoft shares (5.6%).
- $50 is held in Apple (5%).
- And $42 is held in Amazon (4.2%).
- The rest is split between the other 503 stocks listed on the S&P 500 (there are 505 stocks in total, as some company's have multiple listings).
Ultimately, not only is an index fund great for investing in the stock markets without possessing any knowledge, but you will be doing so passively. This is because popular indexes are usually rebalanced and reweighted every three months.
Additionally - and as we cover in the next section, stock market index funds allow you to diversify at the click of a button.
Step 6: Diversify to Mitigate Your Stock Market Investments
Diversification is an important term to understand when investing in the stock markets. In its most basic form, it means investing in a range of different stocks from several sectors and industries.
By doing this, you are reducing your long-term risks as you are not overly exposed to a small number of stocks.
- For example, let’s suppose that you invest $5,000 into Tesla and $5,000 into Facebook.
- Both of these company's have had a tremendous 2020 on the stock exchange - much like the rest of the technology space.
- However, if the sector in question took a turn for the worse, your losses could be significant.
In order to counter this, a diversified stock portfolio might see you invest in dozens of different company's from a variety of other sectors - such as tobacco, consumer goods, oil and gas, telecommunications, and pharmaceuticals.
Seasoned investors will take things to the next level by diversifying into other markets, too. For example, you might allocate some of your capital to stocks based in the US, UK, Germany, and Japan.
It is important to note that the process of creating a diversified portfolio is now an easy task thanks to fractional ownership. For example, if using Robinhood, you can invest from just $1 into your chosen stock. As such, a $100 deposit would allow you to diversify across 100 different company's.
And of course - if taking the stock market index route via an ETF, you will already be diversifying into hundreds of stocks. In fact, ETFs contain thousands of stocks from dozens of different markets.
Step 7: Keep Track of Your Portfolio
Most newbie investors entering the stock markets for the first time will look to take a passive, long-term approach. For example, you might buy a selection of high-grade stocks and let them sit in your portfolio for several years.
While there is nothing wrong with a traditional ‘buy and hold’ strategy, it is important that you still keep tabs on how your stocks are performing.
We don’t mean checking your portfolio several times a day. On the contrary, once a month is more than sufficient. The key point is that you need to ensure that your portfolio is still in line with your financial goals and appetite for risk.
If, for example, you find that you are overexposed to a particular market, you might want to rebalance your portfolio. This might see you reduce the number of tech stocks you have and instead add some strong and stable pharmaceuticals.
We have already noted that index fund ETFs automatically reweight your portfolio to mirror the respective market. But, ETFs are only tasked with ‘tracking’ the stock market. This means that if the wider markets are on a downward spiral, as will your ETF.
This is why you might want to consider a robo-advisor platform like WealthSimple. In doing so, your portfolio will be rebalanced automatically based on your risk parameters. This allows you to invest in a passive manner while at the same time give yourself the best chance possible of keeping your risks in check.
Step 8: Dollar-Cost Averaging
Dollar-cost averaging is a simple yet highly effective way to invest in the stock markets in the long run. The main concept here is that you will be buying stocks on a consistent, regular basis.
For example, you might invest $200 per month into Tesla, $100 into Apple, and $100 into Paypal. In doing so, each purchase will attract a different cost price. This means that when the stocks are in a downward trajectory, the value of your outstanding shares will decrease.
However, this also allows you to buy new shares at a discounted price. As a result, there is no need to worry about shorter-term market slumps, as your cost price is constantly being averaged out.
As long as you believed that the respective stocks are sure to grow over the course of time, dollar-cost averaging is a risk-averse way to gain exposure to the markets. With that said, you should try to be as consistent as possible with your dollar-cost averaging strategy.
While most people do this on a weekly or monthly basis, you might also consider investing when the stock in question encounters a dip.
For example, you might decide to buy Amazon shares every time the stock opens in the red. This will allow you to buy your favorite stocks at a reduced price.
Step 9: Always Reinvest Your Dividends
While not all company's on the stock market pay dividends, many do. For those unaware, dividends allow publicly-owned company's to distribute some of their profits to stockholders. This allows you to earn supplemental income on top of your capital gains.
In most cases, dividend-paying stocks will make a distribution every three months. For example, if Nike pays a dividend of $0.88 per share in Q1 and you hold 20 stocks - you will receive a payment of $17.60. This will be forwarded to the brokerage site that you are holding the stocks.
Now, an inexperienced investor might decide to withdraw their dividends out. Sure, if you have a significant amount invested in the stock markets, it is entirely possible to use these payments as a form of income.
However, shrewd investors that are looking to build their wealth over many, many years will instead reinvest the dividend back into the stock markets. In doing so, you will benefit from the long-term impact of ‘compound interest’.
The main concept of compound interest is that by reinvesting your dividends, you will be earning ‘interest on the interest’. In other words, you can use these dividends to buy more stocks and thus - increase the size of your portfolio.
And of course, the stocks that you purchased with these dividend payments will also be able to increase in value and themselves earn quarterly dividends.
To illustrate the power of compound interest via a long-term dividend reinvestment plan, let’s look at an example.
- Let’s say you invest $5,000 into a bunch of dividend stocks
- To keep things simple, we’ll say that these stocks yielded 10% in year one
- This means that you collected $500 worth of dividends
- You withdraw the dividends out so when year two kicks in, you still have $5,000 worth of stocks
As per the example above, you collected $500 worth of dividends and withdrew the cash out. This means that if the stocks also yielded 10% in year two, you would again collect $500. Now let’s see what would happen if you reinvested the dividends back into the stock market.
- You reinvested your $500 dividend payments into new stocks
- This means that by the end of year one you now have a stock portfolio worth $5,500
- At the end of year two, your 10% yield translates into a dividend of $550
- You again reinvest the dividends, so your portfolio now stands at $6,050
- At the end of year three, your 10% yield translates into a dividend of $605
Crucially, by the end of year three, you are now collecting a dividend payment of $605. Had you not reinvested your dividends, you would only have received $500 in this hypothetical example.
Now, if we were to repeat the above dividend reinvestment example for 30 years, your original $5,000 investment would be worth $96,790. This means that instead of receiving an annual 10% dividend at $500, you would now be generating $9,679.
Of course, there is no guarantee that you will yield this much in percentage terms, but the example illustrates the importance of a dividend reinvestment plan nonetheless.
Step 10: Avoid Getting Emotional With Market Turbulence
Make no mistake about it - a lot of newbie investors struggle to deal with the emotional side-effects of stocks and shares. This is because the wider stocks move in cycles. For example, most stocks saw double-digit percentage losses in the midst of the financial crisis. Did the wider markets bounce back?
Absolutely. Similarly, the fear and uncertainty of the coronavirus pandemic forced the stock markets to capitulate in a matter of weeks in March 2020. While inexperienced investors ran for the hills, seasoned traders would have caught the slump by purchasing more stocks at a major discount.
The key point here is that you need to be emotionally prepared for the ups and downs of the stock markets. And don’t forget, these market cycles can often last several years - in both directions.
Ultimately, over the course of time, one would expect the stock markets to grow indefinitely. This is supported by the fact that since its inception in 1926, the S&P 500 has made average annualized returns of over 10%.
How to Invest in the Stock Markets - The Bottom Line
The growth of online and mobile brokerage platforms - alongside phenomenons like fractional ownership and robo advisors, has meant that investing in the stock markets has never been easier.
In fact, in the time it took you to read this guide, you could have easily opened a brokerage account, made an instant deposit, and purchased a stock. That’s the easy part.
However, you need to consider a range of other important metrics before you get started - such as diversification, dollar-cost averaging, a dividend reinvestment plan, and understanding the emotional impact of the wider stock markets.
All in all, by entering the stock market with the required know-how, you stand the chance of growing your wealth over the course of time. On the flip side, nothing is guaranteed in the financial sphere - so make sure you consider the risks before taking the plunge.
Did you know that...
- A stock's beta measures its volatility relative to the overall market—a beta above 1 indicates greater volatility, while below 1 signifies less?
- Cagr, while useful, doesn't give insight into investment volatility or how returns were distributed over the period?
- Compound interest, often dubbed the "eighth wonder of the world", allows your earnings to generate additional earnings, emphasizing the importance of starting to invest early?
- The end of your initial investment horizon doesn't necessarily mean liquidating assets, but could transition into another phase, like moving from accumulation to distribution during retirement?
- For long-term investing, having a clear understanding of one's investment goals, risk tolerance, and time horizon is crucial?
Quotes of the Day:
- "The stock market is not a casino, but it can become one if you don't do your homework." - Peter Lynch
- "The biggest mistake investors make is to believe that what happened in the recent past is likely to persist." - David Einhorn
- "The best investors are those who are able to identify great companies and hold them for the long term." - Julian Robertson
- "The biggest risk in investing is not taking any risk." - Donald Yacktman
- "The best investors are those who are able to learn from their mistakes." - Seth Klarman
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