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Table of Contents1. Have a Financial Plan 2. Make Saving a Priority 3. Understand Compounding 4. Understand Risk 5. Understand Diversification 6. Keep Costs Low 7. Understand Classic Strategies 8. Be Disciplined 9. Think Like an Owner or Lender 10. If It's Not Clear, Don’t Invest in It Frequently Asked Questions (FAQs) The Bottom Line Addendum: A Classic Reading
By MARK KOLAKOWSKI Updated March 25, 2023
Reviewed by MARGUERITA CHENG
Fact checked by AMANDA JACKSON
Getting started as an investor can be a daunting task. According to the 2022 Investopedia Financial Literacy Survey, 57% U.S. adults are invested, but just one in three say they have advanced investing knowledge. Getting started can be especially daunting if you are a methodical person who is cautious about commencing such an important undertaking before you have acquired sufficient knowledge, expertise, and confidence.
Meanwhile, creating a short list of everything that a beginning investor should know inevitably runs the risk of excluding many vital points. Indeed, successful investors are bound to differ widely on what they would include in their top ten lists if they were pressed to replicate this exercise.
Before you can become an investor, you must have money to invest. For most people, that will require setting aside a portion of each paycheck for savings. If your employer offers a savings plan such as a 401(k), this can be an attractive way to make saving automatic, especially if your employer will match all or part of your own contributions.
Before you can become an investor, you must have money to invest. For most people, that will require setting aside a portion of each paycheck for savings. If your employer offers a savings plan such as a 401(k), this can be an attractive way to make saving automatic, especially if your employer will match all or part of your own contributions
Saving and investing on a regular, systematic basis and starting this discipline as early as possible in life will allow you to take full advantage of the power of compounding to increase your wealth. The current protracted period of historically low interest rates has diminished the power of compounding to some extent, but it also has made starting early to build savings and wealth more imperative, since it will take interest-bearing and dividend-paying investments longer to double in value than before, all else equal.
Investment risk has many aspects, such as default risk on a bond (the risk that the issuer may not meet its obligations to pay interest or repay principal) and volatility in stocks (which can produce sharp, sudden increases or decreases in value). Additionally, there is, in general, a tradeoff between risk and return, or between risk and reward. That is, the route to achieving higher returns on your investments often involves assuming more risk, including the risk of losing all or part of your investment.
Realizing its power to create wealth, Einstein referred to compounding as "the eighth wonder of the world"
Diversification and asset allocation are two closely related concepts that play important roles both in managing investment risk and in optimizing investment returns. Broadly speaking, diversification involves spreading your investment portfolio among a variety of investments, in hopes that subpar returns or losses in some may be offset by above average returns or gains in others. Likewise, asset allocation has similar goals, but with the focus being on distributing your portfolio across major categories of investments, such as stocks , bonds, and cash.
You cannot control the future returns on your investments, but you can control the costs. Moreover, costs (e.g., transaction costs, investment management fees, account fees, etc.) can be a significant drag on investment performance. Similarly, taking mutual funds as just one example, high cost is no guarantee of better performance.
Among the investment strategies that the beginning investor should understand fully are active versus passive investing, value versus growth investing, and income-oriented versus gains-oriented investing.
If you are investing for the long term, according to a well-thought and well-constructed financial plan, stay disciplined. Try not to get excited or rattled by temporary market fluctuations and panic-inducing media coverage of the markets that might border on the sensationalistic. Also, always take the pronouncements of market pundits with a grain of salt unless they have lengthy, independently verified track records of predictive accuracy. Few do.
Stocks are shares of ownership in a business enterprise. Bonds represent loans extended by the investor to the issuer. If you intend to be an intelligent long-term investor rather than a short-term speculator, think like a prospective business owner before you buy a stock, or like a prospective lender before you buy a bond. Do you want to be a part owner of that business, or a creditor of that issuer?
Given the proliferation of complex and novel investment products, as well as of companies with complex and novel business models, beginning investors today are faced with a vast array of investment choice that they may not fully understand. A simple and wise rule of thumb is never to make an investment that you do not fully understand, particularly when it comes to its risks. A corollary is to be very careful about avoiding investing fads, many of which may not stand the test of time.
Tip: Avoid investments you don't fully understand. They may present large hidden dangers
What Do I Need to Know Before Investing?
Before investing, it is critical to know what your goals and objectives are. Whether it be to fund retirement, purchase a home, or undertake a new business venture, knowing what you're working towards will help you choose an investment to help you meet your goals. It is also important to know the basics about investing—such as risks, fees and costs, and investment strategies—and understand the investment you're prospecting.
What Are the 4 Main Types of Investments?
While there are many investment categories, the four basic types are stocks, bonds, mutual funds, and exchange-traded funds (ETFs). Stocks are shares of ownership in a company. Bonds are essentially loans made by the investor to the issuer, who promises to pay the principal at maturity and interest over the bond's term. Mutual funds are funds in which multiple investors pool their money together to purchase stocks or other securities, and ETFs are like mutual funds but are traded on national stock exchanges.
Is $100 Enough to Start Investing?
Many prospective investors believe they must have a lot of money to begin investing. However, many investments have low thresholds, giving new investors opportunities to start their journey. You can begin investing with $100 or less. For instance, you could purchase shares or fractional shares of stock, use a robo-advisor to invest based on your goals, contribute to a retirement plan, or invest in a mutual fund. The options are plenty.
As a new investor, choosing the right investments or investment strategy can be intimidating, and the advice on how to proceed is as diverse as the selection of investments from which to choose. Despite the innumerous recommendations, building your knowledge and having a solid understanding of investing and your goals is key to making informed decisions that will likely yield favorable results.
If there is one book you should read as a new investor, it is Extraordinary Popular Delusions and the Madness of Crowds by Charles Mackay. Written in 1841 by a Scottish journalist, it is a masterful early study of crowd psychology. The first three chapters, "The Mississippi Scheme," "The South-Sea Bubble," and "The Tulipomania," all deal with financial crazes that ended up in disaster and that foreshadow many financial schemes, bubbles, and manias of today. As a result, these chapters have been cited by a number of present-day financial writers.2