An ancient Chinese curse says “May you live in interesting times.” For investors it seems that this curse has come to pass. Market volatility is through the roof, with the stock market swinging wildly up and down like some sick carnival ride, and taking investors with it every day .
Where does that leave the beginning investor ? Sadly, one recent survey revealed that more than half of all Americans feel that their best chance to retire wealthy is to find a list of the most picked winning lottery numbers. This beginner’s guide to investing will help get you started off on the right foot.
Goals
If you are just getting started in your investing journey, much as with many other of life’s endeavors, the first thing you’ll need to do is make a plan. The plan will answer a few questions so you can achieve your goals. In fact, that is the first question you must answer. What are your investing goals? There are many reasons you may want to invest. For many it is to have a comfortable retirement, while others dream of starting a business or sending their kids to college. When you know what you are investing for, you’ll be able to determine how much money you’ll need to get there. From that, you can determine the monthly contribution and rate of return you will need to achieve your goals.
Time Horizon
What is the time horizon for your investment strategy? In other words, when will you need the money? You’ll have a different strategy if you’re in your 50′s and nearing retirement, than if you’re fresh out of college and have 40 years of work ahead of you.
Does Financial Risk Frighten You?
How risk averse are you? If you’re the type that abhors risk, there are certain investments that are just not for you. In general, riskier investments will give you a higher rate of return, at a cost of possibly losing a good portion of your growth, or even your principle. You’ll want to structure your investment portfolio to take into account your personal taste for risk.
Income or Growth
Are you investing for income? If you are looking for your investments to provide you with a long term income, with regular payments you can use to live on, you’ll need to structure your portfolio accordingly. You will want instruments that pay you regularly. Stocks that have a good history of paying a regular, quarterly dividend would be one such instrument. Bonds would be another way to receive a regular income stream that one could use to live on. In most cases it is prudent to keep risk to a minimum if you’re investing for income. If you are truly counting on those investments to provide your income into the future, you could find yourself back to work in short order if a problem were to decrease the value of your holdings .
You may be investing for growth. In that case you may want to expose yourself to a bit more risk, especially if your time horizon is long, as you’d have more time to recover from any financial missteps. If you’re trying to amass as large a nest egg as possible than you’d want to target maximum growth, remember that you’re but one market fluctuation from disaster .
Diversification
In reality, you’ll likely want to blend some different stocks, bonds and real estate together in your portfolio, to take advantage of a principle known as diversification. This strategy seeks to minimize risk and maximize return by allocating a mix of investment vehicles, each with different risk exposures. In addition a well diversified portfolio uses instruments that are exposed to risk from different areas.
Blue chip stocks are strong companies that have a solid track record for performance in most of the financial metrics. A great hedge against problems is a well rounded portfolio of blue chips in various sectors, such as transportation, mining, consumer goods, and tech stocks. You could then mix those blue chip holdings with some small cap (smaller, younger companies whose market capitalization, or the total value of all their stock, is between $300 million and $2 billion) stocks to round out your holdings. The purpose of adding the small cap stocks is that small caps generally have more room for growth than the larger companies.
The whole point of diversification is to protect your assets by helping to ensure that no one economic or local problem can drastically affect all your holdings. That is why a well diversified portfolio has different companies from different industries.
Stocks vs. Bonds When most people think of investing, stocks are the first thing that spring to mind. A share of stock is simply a piece of the company. You are actually a part owner of the firm, and you own more of the company for each share that you buy. You’ll share (no pun intended) in the fortunes of the company as it grows and becomes more profitable. Many companies also pay out portions of their profits every year or quarter in payments to shareholders called dividends. You can reinvest these dividends in more of the company’s shares, or keep the funds for other purposes. Companies typically sell shares of themselves to raise money so they can finance growth.
Whereas stocks are ownership in a company, bonds are basically loaning a company money in exchange for being repaid your money with interest ,over time. They are shares of company debt. . Basically, a company that needs an infusion of cash borrows the money from investors by selling them bonds. The bonds are then repaid over a specific time period. These bonds are traded like stocks. Although not always true, bonds often rise when stocks fall and vise versa. Bonds are considered debt financing, whereas stocks are known as equity financing .
Municipal Bonds
Certain kinds of bonds are the financial instruments used by local government entities to bring in money for public projects like highways, bridges, schools, parks and libraries . These spcial bonds are called municipal bonds. They often have lower rates of return than corporate bonds, but their proceeds are normally tax free, and they are often lower risk than corporate, although there have been instances where cities have defaulted on their bond obligations .
Where to Trade Stocks and Bonds
You can not just go out and buy stocks like so much chocolate chip mint ice cream. To purchase stocks you must go to a specialized market called a stock exchange. Unless you are one of a select few, you can not do this yourself, but must have a broker do it for you . These can be an actual building full of people making trades, or they can be a virtual exchange that exists purely in the computer world. The New York Stock Exchange is an example of a physical stock exchange, whereas the NASDAQ is a virtual exchange. The trades made in both are just as real and you’ll find examples of solid companies on both exchanges.
One of the great developments in the last decade is the advent of online discount stock brokers. This allows the average person to become a very hands on investor at previously unheard of prices. In the past, all stock trades had to be done through a full service broker, which charged a pretty penny for their services. They often earned their money, because they had access to all the important information that was required to make good stock trades. Now, however most of that information is at the fingertips of anyone with a computer, so people can make their own, well informed investment decisions.
Weather you’re trading stocks on your own, or investing through a 401k plan at your job, the key is to get out there and invest. Compounding harnesses investment gains and reinvests them. The power of compounding means that an investor who starts early and invests wisely Will almost certainly have a large retirement fund to enjoy in their golden years, or even earlier . Starting early is the key to an enjoyable retirement. So go out there and get started. Your future depends on it. Your other choice is to hit the lucky lotto numbers, and the odds there just aren’t that good.
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