Investing in the stock market can be an excellent way to grow long-term wealth.
Some people think you have to be an expert or have a lot of money to start investing. But once you know the basics of stock market investing, you have what you need to begin.
Below we outline the fundamentals to help you get going.
What are Stocks?
Stocks are shares of ownership of a company.
Individual companies sell stock to raise money for their business. When you buy a company’s stock, you own a tiny fraction of the company and its profits.
Some stocks pay dividends. Dividends are periodic payments made to the shareholders (owners of the company stock) based on a percentage of the company’s earnings.
The price at which investors are willing to purchase or sell the stock determines the value of a stock.
When a company grows and makes money, the value of its stock will typically rise. And when it isn’t doing well, the value will go down.
Other influences, like the political climate, natural disasters, and the media, can also affect stock values.
What is the Stock Market?
The stock market is a system of exchanges throughout the world. Each exchange acts as a market where buyers and sellers get together and trade stock.
One exchange you’ve probably heard of is the New York Stock Exchange.
Buyers and sellers don’t directly interact with the exchanges. They use representatives, called brokers, to purchase and sell stock on their behalf.
When you invest in stocks, you use a brokerage company. Most licensed brokerage firms offer online options for their investors, and some do not charge trade commissions.
Today, most stocks are bought and sold electronically through brokerage accounts.
What is a Stock Market Index?
When you hear people say that the market is up or down, they're referring to a stock market index. A stock market index is a way of tracking the performance of a segment of the stock market.
Each index tracks different stocks.
For instance, the S&P 500 index tracks the top 500 large-cap U.S. companies.
Another is the Dow Jones Industrial Average, which tracks the top 30 U.S. companies on the New York Stock Exchange and NASDAQ exchange (National Association of Securities Dealers Automated Quotations).
Stock market indexes gauge stock market values, but they’re also a way to invest.
Many brokerages offer mutual funds or ETFs (Exchange Traded Funds)* that track a particular index (called an index fund).
When investors purchase shares of an index fund, they own a small part of each of the companies in that index.
For instance, you could buy shares of an S&P 500 index fund and own a small piece of each of the top 500 companies in the U.S.
How to Invest in Stocks and Stock Funds
The key to successfully investing in the stock market is to diversify your investments and invest long-term.
If you are nervous about investing, start with a small amount of money, and keep it simple.
As you get more comfortable with investing, you can choose to invest more money in a variety of investments.
Before You Start
Before you begin, decide how you want to invest your money.
Should You Invest in Individual Stocks or Mutual Funds?
Investing in individual stocks carries risk. Buying a single stock means you buy a part of one specific company. You have to be knowledgeable about the company and speculate about its future performance.
With single stocks, you have all your “eggs in one basket,” so you’re investments aren’t as diversified.
Additionally, you may pay brokerage fees or trading commissions each time you purchase or sell an individual stock.
You might hear about people that buy and sell individual stocks daily (daytraders) and make a lot of money in a short period. You don’t always hear about the days when they lose a lot of money.
Trading stock in this way requires a ton of knowledge, research, and risk tolerance – and even then, it can be a gamble.
Mutual Funds and ETFs (Exchange Traded Funds) are the easiest and safest ways to invest. These funds contain a mix of different companies’ stock.
When you invest in a mutual fund or ETF, you own a slice of all the company stocks within that fund. These funds provide investors with more diversification.*
- Mutual funds are managed funds that pool investors’ money together to invest in something. An actively managed fund has a fund manager to decide which stocks or other investments to include in the fund. A passively managed fund tracks a specific stock market index, so it doesn’t require much managing. Passively managed funds have lower management fees.
- ETFs are funds whose shares trade similar to stocks. They often track a specific market index (such as the S&P 500). Since they don’t require active management, their expenses tend to be lower. ETFs have transaction fees, which are generally lower than mutual fund management fees.
*Diversification will help protect your investments. When you invest for long-term wealth, you mitigate your risk by investing in a variety of different stocks. The easiest way to do this is by investing in mutual funds or ETFs.
How to Buy Stocks or Stock Funds
You can’t purchase stocks at the store. Stocks and stock funds can only be bought and sold through licensed brokerages.
There are a few investing (brokerage) platforms you could use to invest:
1. Do your own investing.
If you want to choose your stocks and stock funds, there are many online brokerage companies to use, such as E*Trade, Fidelity, TD Ameritrade, and Vanguard, to name a few.
DIY investing is often the least financially expensive investing option but could be the most costly time option.
When you want to go this route, read and listen to as much investing information as you can.
There are numerous books, blogs, podcasts, publications such as The Wall Street Journal, and successful investors – think Warren Buffet, you can use to help you become an educated investor.
You could even start with this list of resources for introducing teens and young adults to investing.
2. Use a Robo-advisor.
A robo-advisor is a middle-of-the-road approach to investing. It's an excellent option for people who don't want to directly choose each investment themselves, but still want to keep their fees low.
Robo-advisors allow you to choose your financial goals and risk tolerance. They create your portfolio based on this information. Robo-advisors generally charge low management fees.
3. Hire a financial advisor.
Financial advisors manage all your investments.
- Fee-only advisors charge either a flat fee or a percentage of your invested assets.
- “Free” financial advisors get commissions for selling investment products.
Always understand what fees you'll pay and how your financial advisor gets paid. Also, make sure the recommended investments are right for you.
Getting started: Open an Investing or Brokerage Account
If you decide to do your own investing or use a robo-advisor, you'll need to create an investment strategy and open an investing account with a financial institution.
When you use a financial advisor, they will handle this for you.
Most brokerages offer these services online. Do your research on tools and investment options, as well as the fees each brokerage company charges.
Types of investment accounts you can open:
- An IRA (Individual Retirement Account) – a tax-advantaged account to save for retirement, and/or
- A brokerage account – a financial account that allows you to invest in the stock market at any time, for any goal (not just retirement).
1. When is the right time to start investing in the stock market?
There’s no perfect time to start investing in the stock market. But for long-term investing, the best time to start is now.
That said, aside from investing through your 401(k) retirement plan through work, putting money in the stock market before you have an emergency fund with 3-6 months of expenses is risky.
You might also consider ridding yourself of high-interest consumer or credit card debt before putting too much money in the stock market.
Additionally, reconsider stock investing for shorter-term goals. Instead, look at less volatile and “safer” investments like a Certificate of Deposit or Worthy Bonds, which offer a fixed rate of return.
2. What should you invest in when you’re starting?
For more diversification and to reduce your risk, consider mutual funds, target-date funds, index funds, and exchange-traded funds (ETFs).
Research all your investment options, including their fees, historical returns, and more, to make the best decision for you.
3. How much money do you need to start investing?
Beginning investors can start with as little or as much money as you're comfortable investing, given your current financial situation.
If you’re investing on your own, you can decide how much you want to invest.
Some mutual funds have a minimum investment to get started ($1000-$10,000). But ETFs are sold like stock, so you can often purchase shares of ETFs for less than the minimums placed on mutual funds.
If you’re purchasing individual stocks, it will depend on the share price of the stock you’re buying. (You will pay transaction fees on ETFs and stocks.)
When you have a small amount of money, to begin with, investing in ETFs, specifically index funds, is a good way to get started. These funds help diversify your investment and don’t have high minimum requirements.
Worthy Bonds are another option to consider when your available funds for investing are low.
Each Worthy Bond is sold for $10 and provides a 5% fixed interest return that compounds daily. There's no minimum investment required and it's easy to begin.
If you’re using a robo-advisor, the smallest amount you can invest will depend on the company you use. Many have a minimum deposit and investment requirement of $500 or less.
4. Can you lose money investing in the stock market?
Over the last century, the stock market has had overall returns of about 10%. But that doesn’t mean it doesn’t go down.
The stock market, by nature, is volatile. Some years, investors make money, and others they don’t. There are no guarantees when you invest in the stock market.
Diversifying (through stock funds) and holding investments long term is the safest, least precarious way to invest.
Remember, investing is a method for achieving long term returns.
Successful investors will tell you that investing takes patience, the right asset allocation, a diversified portfolio, and the ability to separate your emotions from your investments.
Though investing in the stock market can seem complicated, it doesn’t have to be. With lots of user-friendly, online brokers and investing options, getting started is easier than ever.
The bottom line is, start small and keep your investment plan simple as you begin. The most important thing is to get started!
You can always choose to invest more later as you learn different investment strategies such as Dividend and Income Investing, Impact Investing, Growth Investing, and Value Investing.
Article written by Amanda
Originally published Jan. 2020. Updated Sept. 2020