Before we get going with investing for beginners in earnest, a gentle suggestion… relax. The field of investing is a large one, and there’s virtually an infinite amount of things to learn about investments. The best, most successful investors will tell you that they are continually learning and continually honing and expanding their skills at making money in the financial markets.
You can’t learn everything there is to know about investing, or even just investing for beginners, in one day, but fortunately, you don’t need to do that in order to begin a career as a successful, profitable investor.
One of the most glaring holes in our educational system is the lack of even basic education in the areas of personal finance and investing. One of the most successful traders in history once remarked, “If I’d only been taught in high school what I later managed to learn on my own about investing, I likely could have retired wealthy by age 35.”
Perhaps that’s a somewhat “optimistic-in-hindsight” estimate of investing success, but there’s no doubt that anyone can potentially reap massive financial benefits from simply taking the time to learn the basics about investing as early as possible in life.
So be thankful if you’re reading this guide at age 16, but don’t be discouraged if you’re already well past high school age, or even middle age. It’s not too late to begin building a fortune through investing, and the sooner you start, the sooner you’ll move well beyond investing for beginners and achieve your financial dreams.
There are two truths we’d like to stress to you at this point: One is the fact that taking the time to acquire even a very rudimentary knowledge of investing, whether at sixteen or sixty, will put you well ahead of your peers in terms of financial literacy, and ultimately, in terms of financial success.
The second truth comes from one of the richest commodity futures traders. This wise, older man confided an important “secret” about investing and wealth – “You can make a lot more money a lot faster by sending your money to work for you every day, rather than just sending yourself to work every day”.
And that’s all investing is: Putting your money to work for you making more money.
Basic Types of Investing
This is the building block of investing for beginners. There’s an endless list of specific investments you can make, but nearly all investments fall into one or the other of a handful of categories commonly referred to as “asset classes”. An asset class is made up of investments with similar characteristics that are also usually governed by the same set of financial regulations.
The asset classes that most people are familiar with are as follows:
2) Fixed Income investments/Bonds
3) Cash or cash equivalents, such as money market funds
There are several other asset classes you may wish to explore investing in at some point, which including the following:
1) Commodities and futures, such as oil or gold
2) Alternative investments, which include real estate, foreign exchange (forex), and collectibles
3) Sustainable, Responsible and Impactful investments (SRI) with a primary focus on beneficial social or environmental effects
NOTE: Generally speaking, alternative investments tend to be less liquid than more traditional asset classes. Stocks, for example, are an extremely liquid asset, whereas a private equity investment may require tying up your investment capital for a minimum period of five to seven years.
Equity investing, the buying and selling of stocks in publicly traded companies, is what most people probably think of when they hear the word “investing” and is a popular investment for beginners.
Publicly-traded companies offer investors an equity interest in the company through the purchase of stock shares. For example, if shares of Advent Wireless (AWI) are trading at $1.28 per share, then you can buy 100 shares for $128.00.
By selling shares, companies are able to raise capital to help them grow or expand.
Stock investors may buy stocks to profit from increases in a stock’s price; sell stocks to profit from a decrease in the stock’s price; buy or sell options on stocks or stock indexes. Stock investors may also seek to profit from receiving stock dividends. Dividends can be looked at sort of like earning interest or a per-share bonus from stocks you own. Dividend.com is an excellent website for researching and comparing stocks that pay dividends.
Stocks are traded on exchanges such as the Vancouver Stock Exchange (VSE) or the New York Stock Exchange (NYSE). Exchanges regulate and facilitate the trading of stocks.
The most important factor that determines a stock price is, of course, how well the company is performing. Other factors that impact stock prices include how well the overall industry the company is part of is performing, the performance of competitors, economic conditions, and government actions.
Stock investors are usually guided in their investment decisions primarily by either technical or fundamental analysis. (For more on technical and fundamental analysis, see the section on “Principles of Investing – Technical and Fundamental Analysis”)
Fixed Income Investing for Beginners
Fixed income investing refers to investments in debt securities that offer investors fixed-rate interest payments over a specified time frame – the life of the debt security. Debt securities are most commonly referred to simply as “bonds”. The bond market is one of the largest markets worldwide, thanks in part to the massive amount of debt being carried by most governments.
When you purchase a bond you are providing financing for a company or a government, and in return, you receive a specified interest rate, known as the “coupon rate”. Interest on bonds is typically paid either semi-annually or annually until you receive the bond’s full principal amount back on the bond’s specified maturity date.
The coupon rate is the yield offered on the bond at the time it is issued. As interest rates fluctuate up or down over the life of a bond, the value of the bond, and its actual “yield to maturity”, change. Coupon rates do not change over the life of a bond, but changing interest rates do affect the bond’s value and yield. As interest rates rise, bond prices fall; conversely, as interest rates fall, bond prices rise.
For investors who hold bonds to maturity, fluctuating yield to maturity rates during the life of the bond have no practical impact on their investment return. The current yield to maturity rate only comes into play if you are buying or selling a bond in the secondary market sometime prior to its maturity date.
The primary appeal of fixed income securities is their relatively low risk. If you’re buying bonds issued by a major country such as the United Kingdom, making the specified return is virtually guaranteed.
Some bonds are issued as “zero-coupon bonds”. Rather than offering regular interest payments, zero-coupon bonds are instead sold at a significant discount from the bond’s face value. Investors make a return by purchasing the bond for less than face value and then redeeming the bond at maturity for full face value. (For example, a zero-coupon bond with a face value of $5,000 might sell for $4,500. The investor pays $4,500 to buy the bond, and then at maturity sells, or redeems, the bond at the face value of $5,000, thus making a $500, or 10%, return on their investment.)
Bond Sellers – Governments and Corporations
Bonds are sold by national, state, and municipal governments. Municipal bonds are very popular because many municipal bonds earn interest tax-free.
In addition to governments, corporations also issue bonds to obtain financing. Corporate bonds frequently pay higher interest rates than similar government bonds, but they also carry more risk. Corporate bonds are also typically more volatile than government bonds because their value can be affected by the perceived value of the corporate issuer.
Fixed income investments may appeal to investors planning retirement who have large amounts of investment capital available during their working years. Such investors can purchase a large amount of bonds, collect interest payments while they are working, and then around the time of their retirement, the bonds mature and return the principal (face value) to the investor.
To learn more about investing in bonds you can access helpful educational resources at Bankrate.com.
Other Asset Classes – Commodities, Forex, and other Alternative Investments
We don’t have enough space here to provide an in-depth look at every asset class – this is, after all, only intended as an overall investing for beginner’s guide. (But you can look forward to future material from us on Alternative Investments.) However, we can at least make some basic remarks about other asset classes.
One of the most common attractions and potential benefits that alternative assets, such as commodity futures and forex trading, offer is that of increased leverage – the ability to use a relatively small amount of investment capital to control a relatively large investment. For example, commodity futures trading typically offers leverage in the neighborhood of 10:1. In other words, to invest in a standard 100 troy ounce gold futures contract usually requires a margin deposit of only 5-10% of the total value of the contract.
In short, leverage offers you the ability to make a lot of money with just a little money. However, leverage applies to both positive and negative investment outcomes. Just as leveraged investments amplify profits, calculated as a percentage of required investment capital, they likewise amplify losses. Investing in leveraged investments requires careful money management. Unlike buying stocks or bonds, where the absolute maximum possible loss is no more than your total investment, with leveraged investments it is possible to lose more than your total investment. Investors who are unfamiliar with trading leveraged investments often see their trading capital erode at an alarming rate.
Leveraged investments, used wisely, can be an excellent vehicle for rapidly growing your investment capital. But to successfully take advantage of such investments, you have to clearly understand the associated risks.
Principles of Investing for Beginners – Risk and Opportunity
One of the basic principles of investing for beginners is this – risk and opportunity go hand in hand. They increase or decrease in conjunction with each other. Investments that offer higher potential profit carry correspondingly higher levels of risk. Likewise, investments that offer a lower potential return on investment (ROI) typically offer greater security and less risk.
For example, a cash equivalent investment, such as a certificate of deposit (CD), offers a very low, but guaranteed, rate of return. Such investments are appropriate for individuals with a very low-risk tolerance, who are more concerned with protecting their investment capital than with growing it. In contrast, equities offer a substantially higher potential rate of return – up to 10% or more annually – but also carry a much greater degree of risk. There is no guaranteed return with equity investing.
Because of the correlation between risk and potential return, investors need to carefully consider their risk tolerance when selecting investments – how much risk you’re willing to accept in return for the opportunity to realize “X” amount of profit.
It’s also important to think about your personal investment goals – the reason for your investment choices. An investor who is looking to generate a second income through investing, or amass a large enough fortune to retire on, will make much different investment choices than an investor who is merely seeking to earn a little interest to help offset inflation and protect his or her purchasing power.
Principles of Investing – Fundamental Analysis
In analyzing investments, investors tend to fall into one of two camps – those who make their decisions based on technical analysis and those who primarily utilize fundamental analysis.
Fundamental analysis refers to analysis based on economic data or reports, such as the monthly Non-Farm Payroll (NFP) report in the United States, considered an important indicator of the overall health of the economy and, more specifically, of job growth.
Along with major economic reports such as the Producer Price Index (PPI) and Gross Domestic Product (GDP), fundamental stock investors evaluate stocks based on the information contained in a company’s financial statements and earnings reports (often reported as “earnings per share”, or EPS). Investors also examine various financial ratios, such as the debt/equity ratio or price/earnings ratio, to evaluate a company and its stock price.
Principles of Investing – Technical Analysis
Many investors prefer to rely on technical analysis in making investment decisions. Technical analysis evaluates a security not based on fundamental economic or company information, but rather on price and trading action in the market. Technical analysis utilizes price charts, patterns, technical indicators, and market activity (such as volume of trading) in order to predict a security’s probable future price movement.
Technical analysis is often favored by short-term or day traders. Long-term investors who buy and hold securities tend to rely more frequently on economic fundamentals, but over the short-term – trading within a single trading day – such fundamental factors may have less impact than technical factors on the price movement of a security.
Of course, some investors combine fundamental and technical analysis in making their trading decisions. An investor in gold futures might, for example, make a buy or sell decision based on economic fundamentals, but choose specific price entry and exit/target points based on technical analysis.
Principles of Investing – Invest REGULARLY
Most people fail to realize how quickly they can develop a sizeable investment account simply by making modest but regular investments. It’s the magic of compounding that performs this “trick”. Here’s an illustration of compounding at work:
Assume you open an investment account with an initial $5,000 investment, and that the account provides a 12% annual return on investment. You make no further deposits to the account. In 10 years, the account will have grown to a bit over $15,500 – not a bad performance, more than tripling your money.
But now assume that you make one very small adjustment – contribute just an additional $50 every month to the account. Figuring in $50 monthly contributions, in 10 years your investment account will have grown to $27,300 – almost double the account size that you’d have had without making any additional contributions. If you bump those monthly contributions up to $100 per month, then the 10-year account total would balloon to over $39,000…and all from an initial investment of just $5,000, followed by making very modest additional contributions on a regular basis.
The habit of regularly investing even small amounts of money is definitely a habit worth cultivating, a habit that will pay off handsomely for you.
A Special Investment Vehicle: Exchange-Traded Funds (ETFs)
This is an important section of investing for novices. Exchange-traded funds (ETFs) have become an increasingly popular investment instrument over the past few decades. ETFs are similar to mutual funds in that they utilize the combined investment capital of a number of individual investors. ETFs offer a significant liquidity advantage over mutual funds because they can be bought and sold at any time throughout the trading day, just like individual stocks. In contrast, mutual fund shares can only be bought or sold at the end-of-day closing price.
ETFs also typically offer lower fees than mutual funds, thereby reducing trading costs and increasing total net profitability.
The popularity of ETFs is also enhanced by their versatility as investment vehicles. ETFs can be used to invest in virtually any type of security or asset class.
ETFs may contain a portfolio of transportation, banking, or healthcare stocks. There are bond ETFs that hold a diversified portfolio of bonds with varying interest rates and maturity dates. ETFs are available that hold physical gold or silver for investors wishing to invest in precious metals but who prefer to hold ETF shares rather than physical metals.
Even forex currency pairs can be accessed with ETFs, as can other alternative investments such as hedge fund or private equity investments. ETFs also offer investors the ability to invest in portfolios that reflect popular stock indexes.
The desirability of ETFs as an investment vehicle is reflected by the explosion of ETFs created by major brokerage firms such as Vanguard and Fidelity Investments. The amount of funds committed to ETFs grew by half a trillion dollars in 2016 alone. The websites etf.com and etfdb.com offer lists of available ETFs in different investment categories, along with thorough fundamental and technical analysis of each fund’s performance and articles on specific trading strategies using ETFs.
Investing for Beginners Conclusion: Invest in an Education in Investing
Investing is a skill – part art and part science – a practice you engage in and employ to make money. As with any other skill, from dancing to juggling to golf, there are lots of things to learn and it takes time to develop your skill as an investor.
Can anyone become a good, successful investor? We firmly believe that they can – that YOU can. It’s really just a matter of making a commitment to learning what you need to know (such as how to use technical indicators) and then working diligently to apply the knowledge and skills that you obtain.
You may choose to start off investing in some ETFs that track major stock market indexes, and then move on within a few years to becoming a private equity investor. You might be so strongly drawn to investing that it becomes a career for you, and you end up working as an investment analyst, a financial advisor, or a hedge fund manager.
For now, go ahead and congratulate yourself for making a positive, healthy change in your life. Simply by choosing to read this guide, you’ve taken a significant, positive step toward creating a second income stream for yourself.
Let yourself start imagining how, from now on, even when you aren’t “at work”, you’re still going to be generating additional income for yourself as your money is busy making more money for you. Regardless of whether you turn out to be a “market wizard” or just an average investor, five years from now you’re going to have a LOT more money than you would have if you hadn’t chosen to follow this road to wealth.