The world of investing can be vast and confusing, especially to a beginner. There are so many decisions to make, and each one carries with it the risk of loss, or the promise of growth for your money. Below, we’ve compiled some of the most important investment information for you to help get you started.
Step 1: Define your tolerance for risk.
If you’re investing, you’ll need to be prepared for the reality of potential losses. There is no such thing as a “sure thing.” But how much losing can you take?
Determining your risk tolerance is an important way to ensure you’re completely comfortable with your investment path. Your risk tolerance will likely vary according to your age and the time horizon you’re working toward; your risk capital, or the amount of money you can afford to lose; and your investment objectives, or what you hope to gain through your investments.
Step 2: Define your investment goals.
Why are you investing this money? Do you hope to save enough money for a down payment? Are you trying to fund your retirement? Do you plan to use this money to pay for your child’s college education? Or, are you looking for a way to grow your money without any real plans for its ultimate use?
Identifying your investment goals will help you choose your investment vehicles and the amount of money you’re comfortable investing.
Step 3: Determine your investing style.
Next, you’ll need to find an investing style that suits your personality and investing goals. Here are your basic choices:
- Active management – personally managing your investments. This can be a great choice for an investor who is confident in their knowledge of the market and can make decisions they won’t regret. It’s generally not a choice that’s recommended to new investors.
- Broker/financial advisor – allowing an outsider to manage your investments. There are several kinds of brokers you can choose: Full-service brokers will charge a higher fee, but they will also manage every aspect of your investments, including estate planning, retirement planning, financial advice and more. Discount brokers will have lower fees, but offer fewer services. A financial advisor will make investment decisions, monitor your portfolio and make changes as deemed necessary according to your indicated risk tolerance.
- Robo-advisor – an automated option that typically costs less than a traditional broker and works with your goals, risk-tolerance level and other personal details.
Step 4: Choose your investment account.
You’re ready to choose your investments! Here are some options to choose from:
- Bonds – a loan to a company or government entity that agrees to pay you back in a specified amount of years. You’ll receive modest dividends until the bond matures. Bonds are low-risk, but tend to offer lower long-term returns.
- Exchange-traded funds (ETFs) – individual investments that are bundled together and traded throughout the day, like a stock. Share prices are relatively low, making ETFs a great choice for small budgets.
- Mutual funds – professionally managed pools of investor funds that focus their investments in different markets. Mutual funds are inherently diversified and can be a good choice for beginner investors. Some examples of types of mutual funds:
- S&P 500 index funds – Index funds hold the same securities that are found in an index. They have very low expense ratios while providing the investor with exposure to tens or hundreds of stocks representing a variety of industries. S&P 500 Index funds invest in approximately 500 of the largest companies in the U.S. They are managed passively and have low operating costs because their primary goal is to mirror the holding and performance of an index.
- Balanced funds – Also called hybrid funds or asset allocation funds, these mutual funds invest in a balanced asset allocation of stocks, bonds and cash. The asset distribution is fixed and it invests according to an acknowledged investment goal or style.
- Target date mutual funds – These funds invest in a mix of stocks, bonds and cash that is appropriate for a person investing until a predetermined year, which is usually the individual’s anticipated date of retirement. The target year is part of the investment name. As the target year approaches, the fund manager gradually decreases market risk by shifting fund assets out of stocks and into bonds and cash.
- Stocks – a single share or a few shares in a specific company. Many well-established companies offer “dividend-paying stocks,” in which dividends are paid to shareholders as a way to return profits back to the owners. Dividend-paying stocks are often the ideal choice in a bear market, which is when investors look toward income-producing stock over growth.
If you’ll be putting all your eggs in one basket with a stock, be sure to research your chosen company carefully. Don’t buy a single stock without having a clear understanding of that company’s current financial situation.
You can begin your research with some of these resources:
- The company’s annual report
- The 10K and 10Q reports that the company files with the SEC
- Standard & Poor‘s Stock Reports
If you find leafing through a newspaper or reams of a report to be tedious, you don’t have to resort to blind investing. With the information superhighway, research is easier than ever.
The following list of resources are available online and will clue you in to your company’s financial standing:
- King World News
- The U.S. Securities and Exchange Commission
- The Wall Street Journal
Step 5: Understand the Costs of Investing.
Let’s take a peek at an actual investment to illustrate the various fees, commissions and taxes that can be associated with investing. (The company and amounts have been changed, but they’ve been accurately scaled down to size.)
Suppose a share of stock in Apple closed at $43.26. During the next few months, Apple issues four dividends of $0.55 per share. Then, a share of stock in Apple closed at $51.23.
Let’s say you chose to invest $1,000 in Apple on Aug. 13 and you withdrew it on Aug. 25 the next year.
At the time of your investment, $1,000 would buy you 23.25 shares of Apple. Over the year, you would have received $51.16 in dividend payouts. When you withdrew from the company a bit over a year after your initial investment, you’d sell that stock for $1,191.09.
It seems like your gain from this stock is $242.25, broken down into $51.16 in dividends and another $191.09 from selling the stock. Right?
Not exactly. Here’s where the costs of investments come into play:
First, any dividend payouts associated with your investment would be subject to income tax. In this case, the dividends are considered qualified dividends, and would therefore be taxed at a rate of 15% by the federal government and possibly more by state and local sources. As a result, $7.67 of that dividend gain is eaten up by these taxes.
Second, you’re going to have to pay your broker for the cost of buying and selling the stock. Let’s say, hypothetically, you’ve used an online discount stock brokerage firm. The buy and the sell would each cost $9.99. That’s another $19.98 dropped from your gain—although this fee is tax-deductible (consult your tax advisor).
Third, the gain on the sale would be a long-term capital gain, so 15% of that gain goes to the federal government. Since your gain was $191.09, you’d be paying an additional $28.66 in taxes on the sale.
In total, your expenses for your gain add up to $56.31. Just like that, nearly 30% of your gain is gone! Even if your investment is a loser, you’re still paying the brokerage fees and will earn less in dividends.
The moral of the story? Investing costs. You’re taxed if you gain, and may get hit with brokerage fees whether you win or lose.
Step 6. Open an investment account.
Once you’ve chosen a company for your investment, you’ll need to open an investment account at a brokerage firm. This won’t cost you anything (at least, it shouldn’t); you’ll simply need to follow the procedures of your chosen company. You can do this easily online.
At this point, you’ll need to know which type of account will work best for your investing needs. Here are the basic account types and a brief explanation of how each one works:
- Individual brokerage account – A regular brokerage account established for an individual. Contributions are not tax deductible; investors pay taxes on capital gains and dividends.
- Joint brokerage account – Similar to an individual brokerage account with the distinction of having two account holders, typically spouses.
- Individual retirement account (IRA) – Qualifying individuals can make non-taxable contributions. Growth is tax-deferred; account holders don’t pay taxes until withdrawals are made.
- Roth IRA – An individual retirement account funded with after-tax dollars. Contributions are not tax-deductible, but growth is tax-deferred and qualified withdrawals are tax-free.
Step 7: Learn to diversify and reduce risk.
Once you’ve started investing, you’ll need to monitor and adjust your portfolio on a regular basis for optimal performance. Most importantly, you’ll want to make sure your portfolio is diversified, or that your funds are divided across different investments and classes. Diversifying helps reduce your risk of loss by ensuring that one poorly performing investment won’t bring down your entire portfolio.
Getting your feet wet in the world of investing can be super-exciting, but daunting. Follow the steps outlined above to help you get started.
Please note: Comments are not monitored for member servicing inquiries and will not be published. If you have a question or comment about a Quorum product or account, please visit quorumfcu.org to submit a query with our Member Service Team. Thank you.