Investing For Beginners - How Do I Start Investing?
In the investment marketplace, the difference between a customer and a client is dramatic. Customers receive little, if any, "added value" services from the financial vendors, and are left to fend for themselves in an investment world full of pitfalls. No one truly qualified is available to help them understand their investment goals, evaluate their portfolio structure and risk attributes, track their investment performance, or help them avoid making critical mistakes. TCM’s clients have a significant relationship with their adviser that understands their dreams and objectives, their risk tolerance, and their overall financial situation. The added value comes in the form of skills that are uncommon, resources that exceed those of the average investor, time dedicated to helping you, and knowledge based on experience that gives you access to proven investment techniques. Most Financial personnel are Stock Brokers or insurance salesmen and are commissioned based!
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For those of you wondering how to get started investing, I’m writing this short and hopefully practical guide to help get you started. If you finish reading it and still need help with your investment decisions we suggest you get a free information packet from Ameriprise to see if you need professional help.
The first thing you need to do is realize that there is no “perfect” way or time for you to start. And there is no “perfect” product for you to start investing in. The best investment choices that you have are the one’s that you are comfortable with and the one’s that you choose yourself. With that said, you can always choose better when you’re educated, so once you get started, keep practicing and you should get better in no time.
Indeed, as your investments grow, so will your knowledge of how to invest. Start simple and as you learn and save more money, expand and diversify the types of investments you have. There are thousands and thousands of choices that you can make, so to get started you’ll have to come up with a simple plan. Here’s my advice on how to create your plan:
Determine Your Goals and Needs. Depending on what your goals are, you will utilize different investment tools. Here are the first questions to answer. If you are saving for one or more of these goals, then prioritize them and allocate your investment money among the various investments.
Are You investing for the short or medium-term? If so, you’ll want to open a traditional brokerage account, or maybe even use your local bank. If you are investing for the short-term (less than a year), then you are probably best off if you purchase a CD at your local bank or park your money in a money market savings account. If you are investing for the medium-term or long-term, you’ll want to open a brokerage account. Opening a brokerage account is as easy as filling out and mailing in an online form, and can be done by almost anyone.
Are You investing money that you will want access to before retirement? If so, do not invest the money in a tax-deferred account, but rather follow the advice from the previous goal.
Are You Saving for retirement? If so, you’ll want to utilize as many tax-deferred investments as possible, including any 401K, 403B, IRA or Roth IRA that you qualify for. 401K and 403B plans are only available through your employer. These are the most beneficial tax-deferred plans available. If you are eligible for these plans you should start investing in them immediately, and contribute as much as you can each paycheck and each year. The difference between an IRA and a Roth IRA is that an IRA is tax deductible the year that you create it. Also, if you already participate in a 401K or 403B plan, you are usually unable to contribute to a traditional IRA. In a traditional IRA your money grows at a tax-deferred rate but when you sell it you’ll have to pay taxes on the full amount. On the other hand, with a Roth IRA you are taxed on your contribution the year you make the deposit, but you will never have to pay taxes on the money when you take money out. (Click here for a good example of the differences between the two)
Are You saving for children’s college? If this is one of your specific goals, then you can invest money in a 529 plan (either a prepaid tuition plan or a savings plan) or a Coverdell IRA (formerly know as Educational IRA). Also, see collegesavings.org to find out what plans your state offers.
Open an Account. Once you know which types of accounts you want to start investing in, the next step is to open up an account. Here are the basics of opening up each account:
* Certificates of Deposit – You can do this through your local bank. Enter your bank and ask the teller about opening a CD account. They will put you in touch with the right person.
Discount Brokerage – The fastest, easiest and cheapest way to open a brokerage account is to open it through a discount brokerage. Even better, open it at an online discount brokerage. My favorites (in order), are E*Trade, Schwab.com and Ameritrade. Ameritrade is the cheapest, E*Trade is inexpensive but offers more options and a better interface than the rest (you can get bank accounts, research reports and other services), and Schwab.com is the most expensive but offers you to pay for additional services like advice, research reports and other full-service options.
Full Service Brokerage – These include companies like Morgan Stanley, American Express, Edward Jones, Merrill Lynch, Prudential Financial. These brokerages provide you guidance, advice and research reports, but they are much more expensive but their brokers can often push you toward investments you may not be comfortable with. Instead of charging a flat fee for trades, they usually charge a commission-based fee structure that can be much more expensive. Also, they charge annual maintenance fees on your account of sometimes hundreds of dollars. Be leary of these accounts unless you really need the extra guidance.
* 401K, 403B – These plans are ONLY offered through your employer. Find out if your employer offers one of these plans (or any other tax-deferred, stock investment or other plan) by contacting your Human Resources department. They will give you the forms needed to sign up.
* Traditional IRA – You can open one of these with almost any brokerage or discount brokerage. I recommend doing it yourself with a discount broker like E*trade or Ameritrade. E*trade doesn’t charge a monthly fee and offers decent tools to help you choose your investments. If you want a little more guidance, you can open a discount brokerage account with Charles Schwab, who will give you personal guidance for additional fees.
* Roth IRA – This type of account can be opened the same was as a Traditional IRA.
* Coverdell IRA (Educational IRA) – You can open at many brokerages, including E*Trade or Schwab.com.
* 529 plan – Check with your state to see which plans are offered. Check out www.collegesavings.org to find more information about the plans in your state. Some of these accounts are also offered by online brokers including E*Trade and Schwab.com.
* Other plans – Many other specialized, small-business or self-employed plans also exist. Such plans include SEP IRAs, Rollover IRAs, Custodial IRAs, QRP / Keogh, Simple 401k, profit-sharing, money purchase and other plans.
Start Investing. Once your account is open and funded (follow the instructions from your broker to learn how to fund your acccount), it is time for you to make your first investment(s). Here are some tips:
Choose your risk level to invest in. Decide on how much risk you are willing to take, and on how much risk you are comfortable with. The longer your time horizon, the more risk you should take. The more risk you take, the higher your return should be. When you take risk, make sure you try to diversify within your risk level. For example, if you are investing in medium risk, large cap investments (like Fortune 500 companies or S&P 500 companies), either buy several stocks or buy a mutual fund that invests in a broad array of these companies.
Choose your asset class(es) to invest in. Do you want to buy money market accounts (or CDs), stocks, bonds or real estate. If you have a long term investment horizon (over 15 years), then there is no need to invest in bonds yet. Most investors are best suited to buying stocks. Stocks include individual companies, stock market tracking stocks (like the QQQ or SPiDERs), and of course mutual funds.
If you are starting out with only a small amount of money, don’t worry too much about diversifying your investments. Start by buying a single mutual fund investment in the risk category you are interested in. To find a suitable mutual fund, check with your brokerage to see what they offer. Most brokerages give you access to thousands of funds. (See How to Select An Investment below on how to select one.)
As your investments grow and you invest more and more money, start to diversify your investments to include investments from multiple risk categories (preservation, income, growth, aggressive growth) and asset classes (money markets/CDs, stocks, bonds).
How to Select An Investment. Here are some tips on how to narrow down your selection of investments.
* CDs – Choose your time horizon. Then find the CD closest to that time horizon with the highest rate. Shop around at your local banks or through your brokerage account.
* Money Market Accounts – Offered by banks and brokerages. Choose between tax-free and traditional accounts. Then look for the highest rate. Tax-free accounts are more beneficial if you are in a very high tax bracket, but they pay a lower interest rate.
* Stocks – Picking individual stocks is the riskiest method of investing. If you are just starting to invest, you should probably start with stock mutual funds. However, it doesn’t hurt to add a small percentage (never more than 10% of your portfolio per single stock) of individual stocks to your account. Doing so will likely increase your participation level and interest in the stock market. To pick individual stocks, use a variety of tools, many of which are offered through your online brokers. Find companies that you know something about and that have a good reputation. Then, read about the company and learn about their business. Try to get your hands on some research reports to learn what other people think (but remember that research reports are wrong as often as they are right). Look for long-term trends that will benefit the company you like. Always invest for long-term reasons and don’t ever buy a stock simply because it is popular or because you think you know something others don’t. As a previous research analyst, I can safely tell you that every time I knew something that the rest of the market didn’t know, I was wrong as to how the stock would react to the news. Basically, I’m saying that you can’t predict the short-term fluctuations of the stock market or of individual stocks. The best way to invest is to find long-term, sustainable business trends that you can invest in, and then to hold your investment until you think those trends are changing. A great way to find stocks to read is to subscribe to a magazine that offers opinions and spells out their business models (try Smart Money or Kiplinger's) . Also, word of mouth works to give you ideas, but don’t be too hasty acting upon other people’s ideas. Quite often they are just repeating something they heard from their broker, or from a friend of a friend of a friend.
* Mutual Funds – Use the tools from your broker, or other sites like Yahoo Finance or Motley Fool, or even magazines like Money Magazine to learn about and compare different funds. Find a fund in the risk category you are comfortable with (capital preservation, income, growth, aggressive growth) that has demonstrated at least market average returns over the past. It also makes sense to go with funds from companies that you’ve heard of before (like Strong, Janus, Putnam, Fidelity). These companies will likely be in business longer and often attract better portfolio managers than other funds. Also, remember that previous results are not indicative of future results. High flying funds often falter for years afterwards, and the top performing funds often come from previously under performing managers. To find out if a fund is right for you, read their prospectus, which can be found on the website of your online brokerage, on the website of the fund company, or through request from your broker or brokerage. Look at the quality and experience of the managers of the fund, their investment philosophy, and the list of the top stocks held in their fund (all of these are required to be reported in the prospectus). Also, look at the fee structure of the fund. An average management fee shouldn’t exceed a few percent a year. Also, some funds charge you extra fees to purchase or sell their shares. Stay away from these funds. And most importantly, don’t fret too much about which fund you are buying, and when you buy it, and try not to be too critical of its performance. Give it some time before you judge its results. If it’s not working out a year from now, then consider buying a different fund.
* Bond Funds – Search for a bond fund the same way you search for a stock mutual fund. I wouldn’t recommend buying bond funds unless you are nearing retirement, or unless you have a very large portfolio that you need to diversify. When buying bond funds, look at the duration of each fund. Find out whether it invests in long-term, short-term, or medium-term bonds. Use your online broker’s tools (or Yahoo Finance) to look at their historical returns versus other funds. Look for good brand names and read the fund’s prospectus to determine if it is right for you.
Keep Educating Yourself. Subscribe to a magazine that will further your knowledge and give you good ideas. Also, check out this site on stock investing.