How to Start Investing In Stocks
Investing is a way of putting money aside while you are busy with life and making that money work for you so that you can fully reap the rewards of your work in the future. Investing is a means to a happier ending. Legendary investor Warren Buffett defines investing as ” … the process of putting money away now in order to get more money in the future. “1 The goal of investing is to put your money into one or more types of investment vehicles in hopes of increasing your money over time.
Let’s say ,you have $1,000 set aside and are ready to enter the world of investing. Or maybe you only have an extra $10 a week and would like to invest. In this article, we’ll walk you through how to get started as an investor and show you how to maximize your returns while minimizing your costs.
What kind of investor are you?
Before committing your money, you need to answer the question, what kind of investor am I? When you open a brokerage account, an online broker like Charles Schwab or Fidelity will ask you about your investment goals and how much risk you want to take.
Some investors want to be actively involved in the growth of their money, and some prefer to “set it and forget it. “More traditional” online brokers, like the two mentioned above, allow you to invest in stocks, bonds, exchange-traded funds (ETFs), index funds and mutual funds.
Online brokers
Brokers are either full-service or discount. Full-service brokers, as the name implies, offer the full range of traditional brokerage services, including financial advice for retirement, healthcare, and anything money-related. They typically deal only with high-net-worth clients and may charge significant fees, including a percent of your transactions, a percent of your assets under their management and sometimes an annual membership fee. It’s common to see minimum account sizes of $25,000 and up at full-service brokers. Still, traditional brokers justify their high fees by providing detailed advice to your needs.
Discount brokers used to be the exception, but now they are the norm. Discount online brokers provide you with tools to select and place your own trades, and many of them also offer a set-it-and-forget-it robo-advisory service. As the 21st century has progressed, online brokers have added more features, including educational materials on their websites and mobile apps.
Although there are a number of discount brokers with no (or very low) minimum deposit restrictions, you may face other limitations, and accounts that do not have a minimum deposit will be charged certain fees. This is something an investor should consider when looking to invest in stocks.
Robo-advisors
After the 2008 financial crisis, a new type of investment advisor was born: the robo-advisor. Jon Stein and Eli Broverman of Betterment are often credited as the first in the space.2 Their mission was to use technology to lower costs for investors and streamline investment advice.
Since Betterment’s launch, other robo-first companies have been created, and even established online brokers like Charles Schwab have added robo-like advisory services. According to a report by Charles Schwab, 58% of Americans say they will use some type of robo-advice by 2025, if you want to use an algorithm to make investment decisions for you, including tax loss harvesting and rebalancing, A robo-advisor can be for you. And as the success of index investing has shown, if your goal is long-term wealth creation, you might do better with a robo-advisor.
Investing through your employer
If you’re on a tight budget, try investing just 1% of your salary in retirement savings available to you at work. The truth is, you probably won’t miss even that small a contribution.
Work-based Retirement Plans deduct your contributions from your paycheck before taxes are calculated, making the contribution even less painful. Once you’re comfortable with a 1% contribution, you may be able to increase it if you get annual increases. You probably won’t miss the additional contributions. If you have a 401(k) retirement account at work, you may already be investing in your future with allocations to mutual funds and even your own company’s stock.
Minimum to Open an Account
Many financial institutions have minimum deposit requirements. In other words, they will only accept your account application if you deposit a certain amount of money. Some companies won’t even allow you to open an account with a $1,000 deposit.
It’s worth shopping around some and checking our broker reviews before deciding where to open an account. We list minimum deposits at the beginning of each review. Some firms don’t require minimum deposits. Others can often reduce costs, such as trading fees and account maintenance fees, if you have a balance above a certain threshold. However, others may specify a certain number of commission-free trades to open an account.
Commissions and fees
As economists like to say, there is no such thing as a free lunch. Although recently many brokers have raced to lower or eliminate commissions on trades, and ETFs offer index investing to anyone who can trade with a bare bones brokerage account, all brokers have to make money from their clients one way or another.
In most cases, your broker will charge a commission every time you trade stocks, either by buying or selling. Trading fees range from the low end of $2 per trade, but can be as high as $10 for some discount brokers. Some brokers don’t charge trading commissions at all, but they make up for it in other ways. There are no non-profit organizations that run brokerage services.
Depending on how often you trade, these fees can add up and affect your profitability. Investing in stocks can be very expensive if you enter and exit positions frequently, especially if there is little money available.
Remember, a trade is an order to buy or sell shares in a company. If you want to buy five different stocks at the same time, it will be considered five separate trades, and you will be charged for each one.
Now imagine that you decide to buy the shares of these five companies with your $1,000. For this purpose, you incur a trading cost of $50-assuming the fee is $10-which is 5% of your $1,000. If you were to invest the 1,000 USD in full, your account would be reduced to 950 USD after the trading costs. This represents a 5% loss before your investments even have a chance to earn.
Should you sell those five shares, you would again incur the cost of the trades, which would be another $50. The round trip (buying and selling) of these five shares will cost you $100 or 10% of your original deposit amount of $1,000. If your investments do not earn enough to cover this, you have lost money simply by entering and exiting positions.
If you like to trade frequently, check out our list of brokers for cost-conscious traders.
Mutual fund loads (fees)
In addition to the trading fee for buying a mutual fund, there are other costs associated with this type of investment. Mutual funds are professionally managed pools of investor funds that make concentrated investments, such as large cap U.S. stocks.
There are many fees an investor incurs when investing in mutual funds. One of the most important fees to consider is the Management Expense Ratio (MER), which is calculated each year by the management team based on the number of assets in the fund. The yield ranges from 0.05% to 0.7% annually and varies by fund type. But the higher the MER, the more it affects the fund’s overall returns.
You may see a number of sales charges called loads when you buy mutual funds. Some are front-end loads, but you’ll also see no-load and back-end load funds. Make sure you understand if a fund you’re considering carries a sales load before you buy. Look at your broker’s list of no-load and no-transaction-load funds if you want to avoid these additional fees.
In terms of the beginning investor, fund fees are actually an advantage over stock commissions. The reason is that the fees are the same regardless of the amount invested. Therefore, as long as you meet the minimum requirement to open an account, you can invest as little as $50 or $100 per month in a mutual fund. The term for this is called Dollar Cost Averaging (DCA) and can be a great way to start investing.
Diversify and reduce risk
Diversification is considered the only free lunch in Europe. In short, by investing in a range of assets, you reduce the risk that the performance of one investment will severely impact the return on your overall investment. You might think of it as financial jargon for “don’t put all your eggs in one basket.”
In terms of diversification, the biggest difficulty here will come from investing in stocks. As mentioned earlier, the cost of investing in a large number of stocks could be detrimental to the portfolio. With a $1,000 deposit, it is almost impossible to have a well-diversified portfolio, so you may need to invest in one or two companies first. This increases your risk.
This is where the big advantage of mutual funds or exchange traded funds (ETFs) comes into focus. Both types of securities typically have a large number of stocks and other investments within the fund, making them more diversified than a single stock.
Final Ideas
It is possible to invest when you are just starting out with a small amount of money. It is more complicated than just choosing the right investment (a feat that is difficult enough in itself), and you need to be aware of the limitations you face as a new investor.