Stock investing may seem difficult, but it doesn’t need to be. Like any skill it is learned over time and there are mistakes made along the way. It is also possible to get started with a relatively small amount of money – a few thousand dollars.
Investing though should not stop after you’ve dropped a few thousand dollars in your favorite restaurant’s stock. Investing should be something you do, just like getting groceries, mowing the lawn, or putting gas in the car. You need to put a few hundred dollars away each month into your investment account and then invest that money as you build up enough cash to afford a reasonable number of shares.
One easy way to start investing is through mutual funds. Many people are introduced to mutual funds through a 401k account. You can also setup a taxable investment account with one of the mutual fund companies and buy funds directly. The nice thing about buying funds outside of a 401k is that as the balances grow you can use some of the money to fund large purchases like cars, home down payments and college tuition bills. Doing so with 401k money before retirement causes large tax bills and penalties. Unfortunately, most people fail to save anything outside of their retirement accounts and cash their retirement funds out when they need money at some stage of life.
Another way to invest is to buy shares of stock directly. When starting with a small amount of money, this is done by first buying shares in one company, then slowly adding shares of other companies as money is available until a sizeable portfolio is amassed. As with mutual funds, money from stocks can be used for purchases after a portfolio has grown to sufficient size. Stocks can either be sold as needed or dividend paying stocks can be bought that provide income on a regular basis. The advantage of dividend paying stocks versus putting money in a CD is that the dividends grow with time as the company makes more money and pays out more of this profit as dividends.
To go the mutual fund route, the minimum amount required to buy shares in a mutual fund must be amassed. Some funds allow investments of as little as $3000, while others require investments of $5000 or more. Some funds also allow smaller initial purchases if direct deposit is setup to automatically purchase more shares of the fund.
Mutual funds invest in several different companies. They pull together money from several people and invest for the group, allowing stock in many different companies to be purchased. This reduces risk since a drop in the value of any given stock will have a small effect on the value of the whole portfolio. A drop in the value of the entire market, however, will result in losses to mutual fund investors, at least on paper.
Typically if investing in mutual funds with a small amount of money one would invest in one fund for a period of time until the amount in the mutual fund grew substantially large, say $10,000, and then sell some of the shares in the original fund and use the proceeds to buy shares in a second fund. This would be continued until shares in three to five funds were held, at which point the investor would direct new investments to the different funds as desired.
If index funds are selected, which buy a set of stocks that track a particular segment of the market are purchased, rather than selecting managed funds, where a manager buys stocks in an attempt to beat the market, taxes will normally be fairly low unless shares of the funds are sold. (Note, this should be a consideration when selling shares of a fund to purchase a second one. It may be better to save up the minimum required to buy shares in the second fund rather than selling shares of the first one since this may result in a large capital gain if you’ve dome well.) This is because index funds rarely sell shares and create capital gains. Many index funds also do not have stocks that pay large dividends, also reducing taxes.
If building up a portfolio of stocks, one should identify a set of five to ten stocks to be “core holdings” of the portfolio. These should be companies that have a good product and the ability to grow their businesses for years to come. Shares in these companies are then purchased based on which is the best buy when funds are available. (An account at a brokerage company will be required to make these purchases.) Once the portfolio becomes sufficiently large – large enough that one needs to start protecting some of the money from losses – one would start to shift some of the money into mutual funds and alternative investments like real estate.
The secret with any investment strategy is to invest regularly. If one simply buys 100 shares of stock, one may do well or do poorly over time depending on whether one bought at a low point or a high point. If one is always buying more shares, however, one will be buying at different prices, both high and low. Because the natural direction of the market is to grow – especially when buying shares of growth companies – buying over a period of time will result in gains even if one is not particularly good at market timing.
Disclaimer: This blog is not meant to give financial planning advice, it gives information on a specific investment strategy and picking stocks. It is not a solicitation to buy or sell stocks or any security. Financial planning advice should be sought from a certified financial planner, which the author is not. All investments involve risk and the reader as urged to consider risks carefully and seek the advice of experts if needed before investing.