Everyone wants to be financially secure. If you have a house, your house
may be your biggest "asset" early on, but you will need to live in it
for the rest of your life. Do you want a financially secure retirement
or a vacation house in the South Pacific? You must invest your savings
if you plan to retire comfortably.
Steps
Save.
Before you can invest, you need money. Don't start investing until you
have a secure job and six to twelve months of living expenses in a
savings account, as an emergency fund, in case you lose your job. Learn
how to budget your money and to spend your earnings wisely. Most
investors have to be careful not to spend any of their profits, and to
keep some aside for future use, and for retirement, as well as
emergencies.
Read. Before you
start investing, you need a basic understanding of what a stock is, what
it means to invest, and how to evaluate stocks. Get some basic books in
stock investing. Aim to read every book on investing you can get your
hands on. Here are some of the very best books and resources for all
serious investors:
The Intelligent Investor by Benjamin Graham. Get this on
audio CD, listen to it a few times, and it will make a lot of sense.
Focus especially on Chapters 8 (market fluctuation) and 20 (margin of
safety).
The Interpretation of Financial Statements by Benjamin Graham and Spencer B. Meredith. This is a short and concise treatise on reading financial statements.
Security Analysis by Benjamin Graham and David Dodd. This book is considered the bible of investing
and will tell you how to analyze corporate finances thoroughly. You
don't have time NOT to read it. Get this book now, and master everything
in this book. That being said, due to its age (it was published in
1934, just after the great stock market crash), it lacks some modern
aspects; in particular, it does not tell you anything about the cash
flow statement.
Expectations Investing, by Alfred Rappaport, Michael J.
Mauboussin. This highly readable book provides a new perspective on
security analysis and is a good complement to Graham's book.
Common Stocks and Uncommon Profits (and other writings) by
Philip Fisher. Warren Buffett once said he was 85 percent Graham and 15
percent Fisher, and that is probably understating the influence of
Fisher on shaping his investment style.
One up on Wall Street and Beating the Street, both by Peter Lynch. They are easy to read, informative and entertaining.
The Essays of Warren Buffett, a collection of Warren Buffett's
annual letters to shareholders. Warren Buffett made his entire fortune
investing, and has lots of very useful advice for real people who want
to invest. Warren Buffet has provided these to read online free: http://www.berkshirehathaway.com/letters/letters.html.
If you have some time left, you should also read Buffett's early
letters to his partners from 1956 to 1969; they can (for example) be
found at http://www.ticonline.com/buffett.partner.letters.html.
Buffetology, The New Buffetology and The Tao of Buffet,
all by Mary Buffet and David Clark. These are basic books on the
investment methods of Warren Buffett. The New Buffetology can be
purchased on audio CD.
For a better biographic insight of Warren Buffet, read Buffett: The Making of an American Capitalist by Roger Lowenstein. This book will tell you how Buffett refined his investment style over the years and who he is.
The Secret Code of the Superior Investor, by James K Glassman. This is an excellent treatise on the importance of buy and hold.
Motley Fool and The Tycoon Report, both excellent online publications.
Wikinvest.com at http://www.wikinvest.com
is a great place to find information on companies and concepts in the
market. It is also helpful to conduct due diligence on the investment
information sources themselves. Check out the performance and advice of
websites, newsletters and blogs. One resource to conduct this research
is at Greedreviews.com (http://www.greedreviews.com).
Think. Warren Buffet
says that after you think, then think again. Warren Buffet says that if
he cannot fill out on a piece of paper several reasons to buy a stock,
then he will not buy it.
Practice. Trade
stocks on paper before actually trading stocks with real money. Record
your stock trades on paper, keeping track of dates of the trades, number
of shares, stock prices, profit or loss, including commissions, taxes
on dividend, and short or long term capital gains taxes you would have
to pay for each trade. It is also helpful to record the reasons for each
buy or sell decision. Calculate your net profit or loss less
commissions and taxes for a meaningful period (1 year or more) and
compare your results with the market index, such as the S&P 500. Do
not start trading with real money until you are comfortable with your
trading abilities.
Open a stock brokerage account with a discount broker.
No specific recommendation can be offered here, as the stock brokerage
business is a rapidly changing field. Trial and error is probably the
only way to find a good broker, but you should do your own due diligence
by checking out their site and looking at reviews online. The most
important factor to consider here is cost, namely, how much commission
is charged, and what other fees are involved. Discount brokers generally
charge commissions of less than $10 per trade, some as low as $1 per
trade, and some offer a limited number of free trades per year, provided
you meet certain criteria. Other than costs, you should also consider
whether dividend reinvestment is offered (which is the best way to build
up your positions), what research tools are offered, customer service,
etc.
Build a small portfolio of 10-50 stocks. Blue chip stocks
are stocks of market leading companies known for quality, safety, and
ability to generate profit in good times and bad, although they are
generally fully priced and difficult to buy at a bargain price except in
a severe bear market. Choose stocks of companies with proven records of
profitability with at least some earning in each of the past ten years,
pay at least some dividend in each of the past 15-20 years, at least 30
percent EPS growth over the past 10 years (using 3-year averages to
smoothe out variations, for example, average EPS for years 2008-2010
compared to average EPS for years 1998-2000), low debt to equity (less
than 1), and high interest coverage (at least 5).
Stay up-to-date with different value investing websites such as
Motley Fool or Fallen Angel Stocks to see what kind of deals are out
there.
If you do not have the time or inclination to learn about individual
stocks, buying and holding no-load, low expense index funds forever
using a dollar cost averaging strategy is best and outperforms most
mutual funds, especially over the long term. The index funds with the
lowest expensive ratio and annual turnover are best. For investors with
less than $100,000 to invest, index funds are usually best. If you
have more than $100,000 to invest, however, individual stocks are
generally preferable to mutual funds, because all funds charge fees
proportional to the size of the asset. Even the lowest fee index
fund, Vanguard Total Stock Market Index Fund (VTI), has a 0.07% annual
expensive ratio. This amounts to only $70 over 10 years for a $10,000
portfolio, but $700 over 10 years for a $100,000 portfolio, and $7,000
over 10 years for a $1,000,000 portfolio. If the expense ratio were
1.50% (typical for an average mutual fund), the fees would amount to
$15,000 for a $100,000 portfolio, and a whopping $150,000 over 10 years
for a $1,000,000 portfolio. See Decide Whether to Buy Stocks or Mutual Funds for more information whether individual stocks or mutual funds is better for you.
Hold for the long term, at least 5-10 years, preferably forever.
Avoid the temptation to sell when the market has a bad day or month or
even year. On the other hand, avoid the temptation to take profit even
if your stocks have gone up 50 percent, 100 percent, 200 percent, or
more. As long as the fundamentals are still sound, do not sell. Just be
sure to invest with money you don't need for five or more years.
However, it does make sense to sell if the stock price appreciates too
much above its value (see below), or if the fundamentals have
drastically changed since purchase so that the company is unlikely to be
profitable anymore.
Hold on to the winners and do not add to the losers without good reason.
Peter Lynch said that if you have a garden and every day you water the
weeds and pick the flowers, that in one year you will have all weeds.
Peter Lynch said that he was the best trader on Wall Street for 13 years
because he picked the weeds and watered the flowers.
Avoid stock tips. Do
your own research and do not seek or pay attention to any stock tips,
even from insiders. Warren Buffett says that he throws away all letters
that are mailed to him recommending one stock or another. He says that
these salesmen are being paid to say good things about the stock so that
the company can raise money by dumping stocks on unsuspecting
investors.
Likewise, don't watch CNBC or pay attention to any television, radio
or internet coverage of the stock market. Focus on investing for the
long term, 20 years, 30 years, 50 years, or more, and not get distracted
by short term gyrations of the market.
Invest regularly and systematically.
Dollar cost averaging forces you to buy low and sell high and is a
simple, sound strategy. Set aside a percentage of each paycheck to buy
stocks every month. And remember that bear markets are for buying. If
the stock market drops by 20 percent or more, move more cash into
stocks, and move all available discretionary cash and bonds into stocks
if the stock market drops by more than 50 percent. The stock market has
always bounced back, even from the crash that occurred between
1929-1932.
Consider selling
portions of your holdings as a stock appreciates significantly, at least
50 percent to 300 percent, based on quality of the stock. Use upper
limit for better quality stocks. Letting your winners run as long as
the story is still good will increase your long-term chance for success.
Warren Buffet says that you should hold winners forever, but if the
price-to-book gets too high (above 100 is definitely too high), you
should consider selling the stock.
Consult a reputable broker, banker, or investment adviser if you need to.
Never stop learning, and continue to read as many books and articles as
possible written by experts who have successfully invested in the types
of markets in which you have an interest. You will also want to read
articles helping you with the emotional and psychological aspects of
investing, to help you deal with the ups and downs of participating in
the stock market. It is important for you to know how to make the
smartest choices possible when investing in stock, and even if you do
make the wisest decisions, to know how to deal with loss in the event
that it happens.
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