Investing in market securities can be daunting as a beginner, but with a bit of instruction anyone can trade on the market. Once you begin, trading on the market can be an exciting way to earn income on your savings or prepare for the future by investing for retirement.
Develop a Trading Strategy
Assess your investment goals. The type of trading activity you will do depends largely on why you want to invest in the first place. Before you begin investing, consider what you want to achieve through your investments. Write these goals down, and develop your strategy accordingly.
For example, if you want to save money for retirement, to buy a home, or to send your kids to college, you likely want to invest money as you earn it, and earn an interest rate greater than what a savings account would provide. Your goal may be to invest $200 a month, and to achieve an interest rate of 10%.
If you have more short term goals, like saving money for a car down payment, you might want to invest one sum of money and earn 6% interest until you have enough to buy the car you want.
Consider your timeline. Most investors can be classified as either short or long-term investors. Decide which of these fits your needs best. For example, if you have spare money and would like to try investing to make short-term profits, your strategy for trading will be different than if you are investing for retirement or for a child’s future education.
Short-term investing is generally defined as holding a security for less than 3 months, and is higher risk than investing for longer periods of time. Very short-term investments, like day trades, do not tend to provide the same kind of returns as long-term ones, and you should do short term trading only if you plan to dedicate a fair bit of time or hire a financial advisor.
Long-term investments average higher returns as securities tend to recover over the long-term from short-term losses.
Consider your risk tolerance. Risk tolerance or your ability and willingness to ride the ups and downs of the market, is dependent on numerous factors. Generally, a younger investor has a longer timeline and can afford to wait for riskier investments to pay off. An older investor with a shorter timeline may have a lower risk tolerance.
You also need to consider your net worth (your assets minus your liabilities), risk capital (extra money you have to invest or trade), your level of experience, and your investment objectives.
Determine the type(s) of investments you will make. The most common types of investments are stocks, bonds, futures, options, and low grade “penny” stocks. Most beginners start with stocks and bonds, which are the more straightforward of the investment options.
A big mistake of many beginners is to want to trade everything; fight that urge and focus. You will have the most success if you learn and practice in the type of investments that meet your specific investing goals.
If your goal is to maximize the return of a long-term investment, consider purchasing both stocks and bonds, but not futures, options, or penny stocks. Stocks and bonds tend to provide much higher returns than traditional savings accounts, but are not as risky as futures, options, or penny stocks.
Only invest in futures, options, penny stocks, or other complex investments if you have extra money and extra time. The markets selling these securities are very risky, and often don’t have the same financial reporting requirements traditional stocks and bonds.
Diversify your portfolio by investing in multiple types of investments, so that if one does not do well over time, the others in your portfolio make up for the loss and you still end up earning money overall.
Technical and fundamental analysis of securities are two different methodologies you can use to evaluate the market or the stock itself. A technical analysis reflects the psychology of the of the market and attempts to predict how the market will change and how that will influence what security will cost in the future. A fundamental analysis instead looks at the intrinsic value of the security and help you determine if the security is under- or overvalued.
Make a plan. At this point you should know how much you are investing, over what time period, and with what purpose. Now you can formulate a plan to meet your investing goals using these three factors, and determine how often you will buy and sell investment securities.
Determine how often you will buy stock, as well as deciding ahead of time on when you would pull out of an investment due to loss. By deciding this ahead of time, you will save yourself the stress of trying to decide whether or not to sell your stock on a day-to-day basis.
Most investment experts advise new investors not to try to predict changes in stock prices day by day, and instead to invest with the expectation to hold the investment for at least 25 days or more, absent significant drops in investment value.
If you do choose to do more short-term trading, day trading (enter and exit the same day), swing trading (enter and exit in two to five days), and position trading (enter and exit in five to twenty days) are the most common methods. You should choose which you want to use and then make your trading decisions accordingly.
In the short-term, stocks tend to move on rumors and news rather than reported earnings. As a consequence, trading stocks on a short-term basis is very risky.
Researching Your Stock Investments
Examine the company income statement. All companies who trade their stocks publicly are required to publish annual and quarterly financial statements showing the results of their operations, and you can find these reports (called the 10-Q and 10-K) on trading websites like Yahoo! or on the company websites themselves. These statements are a powerful research tool, as they allow you a glimpse into the nitty gritty numbers. An income statement shows what revenue and expenses the company had during a given period, and then whether or not the two netted together resulted in a profit or a loss.
The most obvious value in reading the income statement is that you can see whether or not the company is generating a profit. Generally, stock prices for the company trend upwards as profits increase, and trend downward as they decrease or as the company experiences losses. You can compare the company’s income or losses over time, to see whether or not the company is in a pattern of growth.
Remember that in choosing stocks to invest in, you are looking to predict the company’s future performance and hoping it does better than the market expects. For that reason, you can also consider investing in companies who show losses, if you believe that company is going to grow and turn a profit during the time you own the stock.
Check out the balance sheet. Another important financial statement is the company’s balance sheet, which shows the company’s assets, liabilities, and owner’s equity. Assets things like cash, accounts receivable, equipment, and buildings – all items of value the company owns and uses. Liabilities are the amounts the company owns to others, such as loans and accounts payable. Finally owner’s equity is the amount of the business that the company itself, or its stockholders, owns.
The balance sheet, unlike the income statement, shows the company’s position on the last day of the quarter in terms of what it owns and what it owes.
A key metric for predicting growth at a company is the ratio between the company’s cash and short-term investments (such as stock the company owns), and its short-term liabilities. You can tell by comparing the two whether the company has enough cash on hand to pay their upcoming debts – if they don’t, it’s bad news.
Look at the security’s historical prices. You can use sites like Yahoo! Finance to view graphs showing the company’s trading price over time, going back to inception. You can use these reports to see whether the company’s stock price has been increasing or declining over time.
Most new investors avoid stocks whose prices are dropping. While you may be able to turn a profit by purchasing stock at it’s lowest price, and then selling it when it becomes valuable again, these changes are very hard to predict.
Read news about the company. Besides financial performance, stock prices also reflect the market’s expectation for a specific company, based on things like how popular or necessary its products and services are, or how the company’s competitors are performing.
For example, apple’s stock price often changes dramatically when the company announces the release of a new product, and then changes again based on how popular the new product is.
If you have knowledge about a company that the general public does not, or could not figure out for themselves, you should watch out for insider trading laws when making trades. This generally applies mostly to employees of a company who know what’s going to happen before the company announces things to the public. Making trades based on this kind of information is illegal.
Researching Bonds, Futures, Options, and Mutual Fund