This article will condense the main principles and elements of stock investing every beginner needs to grasp into a single page stock investing 101 PDF.
Most people’s relationship with and approach to investing changes over time as their needs change and experience grows. Ironically, changing your investment approach can be one of the worse things you can do.
If your investing strategy gives you opportunities to change course, then the chances are that emotions will take over and you will jump ship and sell out at the bottom from an approach that was just about to turn around and deliver above-average gains.
I am not advocating that your approach should not be flexible. You will need to adjust to your changing needs, making a transition from renting to owning real estate, starting a family, saving for a child’s college. Your investment plan needs to incorporate ways to handle such changing needs but without changing your investment strategy.
So let’s imagine that you adopt an intelligent stance, do all the necessary research, choose a strategy, and stick with it.
But let’s backtrack for a moment.
What are your goals
Setting goals is always the first step.
Establish your goals doesn’t just mean decide how many millions you want to amass. Everyone will want to maximize the results of their investing endeavors. What it does mean is to map out your investing and payout periods over the years ahead.
For how many years will you be investing, over what period will you expect to receive the payout, as a lump sum or regular payments. What lifestyle do you expect to have after you retire, about the same, more frugal or more extravagant? For more on this check here.
What is your risk tolerance
You need to have an honest conversation with yourself about risk. You will need to get comfortable defining yourself as an investor somewhere along the spectrum from conservative, risk-averse at one end, to aggressive and risk embracing at the other end.
For a detailed examination of how to determine your risk tolerance and risk profile, check here.
What kind of investor or trader are you?
There are two considerations here. They are indeed related in a way that a student of Aristotle’s logic might find interesting.
What is your level of financial sophistication? This is not entirely independent of your risk tolerance. It is possible to be a highly sophisticated conservative and risk-averse investor. It is also a comfortable place to be a simple passive investor running your own low-risk portfolio that requires almost no financial sophistication at all.
On the other side of the coin, it would be a very perilous venture to attempt to trade in the short-term without developing sufficient knowledge about markets and the financial instrument you are trading. So short-term trading is really only for the financially sophisticated. Or maybe the lucky – at least while the luck lasts.
If you are conservative and risk-averse you can only really afford to be an investor. Having said that, it is possible to build and manage your own long-term stock and bond portfolio and use it to generate additional income from options while managing your risk to within acceptable levels.
But if you have a tolerance for higher risk it may make sense to be both an investor and a trader dividing your funds between long-term investments and shorter-term trading activities.
Early on in your investing journey, your level of knowledge and experience may be low and growing. You may decide that you will devote considerable time and effort to building your knowledge and gaining experience so that you could envisage actively running and managing your own investments.
To invest or to trade or both?
The other question to answer is whether you want to be making long-term investment decisions or short-term trading decisions. Are you going to be taking long positions in stocks, ETFs, and bonds and riding them out, or are you looking to manage a portfolio of shorter-term speculative trades? This is a question of your investment decision horizon, whether that is measured in years, months, weeks, days, or minutes.
The two should not be seen as mutually exclusive. It is quite possible and even in some ways desirable to both invest and trade. Even a day trader would be well advised to invest profits from trading into longer-term financial instruments.
In many respects, the distinction between investing and trading is linked with the distinction between passive and active investing. For a thorough examination of this issue, check here.
Pick a system that fits you and the circumstances
By now you should have a good handle on your investment horizon, the period over which you expect to receive payouts, your risk tolerance, your level of sophistication, and how that may change over time. All of these inputs will lead you to select an asset allocation and investment strategy that works for you.
Your risk profile and level of financial sophistication will determine the right asset allocation.
If your risk tolerance is low and you would only be comfortable with low-risk investments, then your portfolio should be weighted towards bonds with the remainder in stock ETFs. If you consider yourself not to be very sophisticated financially then find yourself some solid ETF’s that give you access to a range of bonds and other ETF’s the give you access to broad market index stocks.
The best approach is to make regular monthly contributions, then just use these to buy into each fund according to your set allocation.
If you want a simple approach and you have a high-risk tolerance then your allocation to bonds should be much lower and it would make sense to build the rest of your portfolio with growth-oriented ETFs. Again, keeping it simple select a few growth ETFs and maybe one bond fund and add the same dollar amount every month to each.
Looking at the other end of the spectrum, if you have a high level of financial education and a low level of risk tolerance then you should stick with a portfolio weighted towards bonds. In addition, it makes sense to set aside a small portion of your portfolio for options hedging strategies to minimize downside risks.
If you can prove to yourself that you can successfully hedge downside risk with options, this can give you the confidence to reduce your portfolio allocation to bonds. This is particularly relevant in the current financial environment since bond yields are not keeping pace with inflation. If you are comfortable with options you can also sell covered options for the ETF or stock positions you hold as a source of additional income.
A sophisticated approach to high risk investing opens up many opportunities. This can easily lead to failure. This is where you are likely to invest and trade and the systems you adopt and discipline you are able to bring to bear will impact your long term results.
There are many dangers here. You may find that your trading inclinations lead you to take positions in speculative high growth areas. You may also decide to build a long-term investment portfolio with growth stocks. If you are not careful you can find yourself undermining the diversity of your own portfolio. Under these circumstances, if you are not careful to hedge then a significant market downturn can hit your long term positions and your short term positions in equal or in compounding measure. A classic double whammy.
Value, growth or income
Across the spectrum of high and low risk and high and low sophistication, there are natural places for value, growth, and income investment strategies.
A value investment strategy is appropriate for a simple and low-risk approach. A sophisticated low-risk approach can afford to adopt a mixed value and income investing strategy.
A growth investment strategy fits well with a high-risk approach whatever the level of sophistication. It is also possible to mix income strategies, particularly during the payout period.
To learn more about investment strategies, check here.
Advisory service or self-managed?
The other aspect to consider is whether to use an investment management service or to manage the portfolio yourself. There is no hard and fast rule.
An investor with a conservative low-risk tolerance who had either little inclination or appetite to manage their own investments will be more inclined to use a professional investment manager.
A more sophisticated investor is more likely to want to manage their own portfolio.
The investor’s worse enemy
So much has been written on this topic it seems almost superfluous to repeat it. On the other hand, this warning is so frequently ignored.
The simple fact is that the investor’s own emotions are the worse enemy. It is all too easy to be drawn into taking a position either through greed or fear of missing out. It is even easier to abandon a position out of fear of losing even more than you already have.
Experience and studies show that when emotions are in the driving seat of investing and trading decisions, that is when the worse decisions are made.
Find your system and stick with it
All the evidence suggests that you increase your chances of success if you find an investing system that has a proven track record and stick with it.
I hope you found this article interesting and useful. Do leave me a comment, a question, an opinion or a suggestion and I will reply soonest. And if you are really inclined to do me a favor, scroll down a bit and click on one of the social media buttons and share it with your friends. They may just thank you for it.
Disclaimer: I am not a financial professional. All the information on this website and in this article is for information purposes only and should not be taken as investment advice, good or bad.
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