Investing 101: Investing Basics For Beginners

We have a sneaking suspicion you might know what investing is, but just in case let’s define investing our terms. Then we’ll tell you how to do it.

What is investing?

Investing is to commit money in order to earn a financial return. This essentially means that you invest money, to make money and achieve your financial goals.

That is the super concise investing definition that comes courtesy of Old man Merriam-Webster.

Regardless of where you invest your money, you’re essentially giving your money to a company, government or other entity in the hope that they provide you with more money in the future. People generally invest money with a specific goal in mind for example retirement, their children’s education, a house — the list goes on.

Investing is different from saving or trading. Generally investing is associated with putting money away for a long period of time rather than trade stocks on a more regular basis. Investing is riskier than saving money. Savings are sometimes guaranteed but investments are not.

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If you were to keep your money under the mattress and not invest — you’d never have more money than you’ve put away yourself. That’s why many people choose to invest their money. There are many things you can put money into, here are some of those things.

Types of investments

  1. Stocks
  2. Bonds
  3. ETFs
  4. Mutual funds
  5. Cash Equivalents
  6. Real estate
  7. REITs
  8. Commodities

Now we know your eager to learn the investing basics given that you’re reading this article. Let’s hold up just a second and figure out if you should be investing in the first place.

Things to consider before investing

First things first. Before you start investing in anything, you should ask yourself a couple important questions. These questions determine whether you’re in good enough financial shape to start investing right now — here are the basics:

Do you have a lot of credit card debt?

If the answer is yes, you’re probably not in a position to invest quite yet. First, do everything you can do to erase that debt, because no investment you’ll find will consistently outperform the 14% or so APR that you’re likely forking over to a credit card company to service your debt. Here’s a good place to start plotting your debt’s annihilation.

Do you have an emergency fund?

In polite terms, poop happens. Layoffs, natural disasters, sicknesses—let us count the ways in which your life can be turned upside down. Any financial advisor will tell you that in order to avoid total ruin you should have between six months and a year of total living expenses in cash, a safe or a smart savings investment account should the unthinkable happen. If you don’t, bookmark this article, start saving and come back just as soon as you’ve got that emergency fund squared away.

Beginners investing tips

Before we go over the specifics of what you should consider investing in, be it stocks, bonds, or your cousin Brian’s yakalo farm — let’s first go over the basics of how one invests.

Investing is what happens when at the end of the month after the bills are paid, you’ve got a few dollars left over to put towards your future. No investing happens without putting money away. How are you supposed to find those elusive extra dollars to save — here’s how.

1. Avoid lifestyle creep

In all likelihood, you’ll earn more in your thirties than you did in your twenties and even more than that in your forties. The key to saving is to do your absolute best to avoid what’s called “lifestyle creep”. If you haven’t heard of this before, let us explain.

Lifestyle creep means that as you make more money, what once seemed like luxuries become necessities. Whole roasted pigeon and oyster concassé may be sublime and all. Just because you have the $626 in your checking to cover the tasting menu at Guy Savoy, doesn’t mean you should. Instead, you should do your very best to live the same way you’ve always lived. Then put away the extra money you’re making from your raises rather than increase your spending Skip the pigeon, get yourself a croque monsieur, and invest the 600 bucks you saved!

2. Start investing — even a little at a time

Once you’ve got savings, you’ll absolutely want to invest. Inflation will almost always outpace the interest rate that you’ll be able to get on a savings account. You’ll be effectively be saving and losing money at the same time. This is why you should start investing as soon as you can.

Investing is not just for the Warren Buffet’s of the word. If you are finding it tough to put away some investing money each month, try using a spare change app. These services round-up your purchases, allowing you to invest small amounts of money that you’d hardly miss. For example, if you spent $3.39 on a coffee then 61c would be invested.

Investing small amounts of money is a great habit to get into and your money will add up over time. If you’re looking for more easy ways to invest with little money, here they are.

3. Know what you’re investing for

How you invest, depends on what exactly you’re investing for. You might be investing money to help your 14-year-old with her upcoming university tuition. You might want to invest money to live off when you retire in thirty years or so. The time horizons on each of these investments are very different. Because you’ll need access to them sooner, than others. Those with shorter horizons should invest more conservatively. Those investing money they don’t need for a long time can choose riskier investments.

4. Understand the risk your taking

Before deciding where to invest, you’ll need to first assess your personal risk tolerance. This is a fancy way of saying how much of your investment you can really afford to lose. If you need money for next month’s rent, you have a very low-risk tolerance.

If your life wouldn’t be materially affected in any way, if rather than investing money, you set fire to it, your risk tolerance is through the roof. Risk tolerance is often dictated by your so-called “time horizon”. This may sound like something you’d hear on the bridge of the Starship Enterprise, but instead, it’s just a term that means the length of time you’ll hold a particular investment.

Savings accounts and smart saving investment accounts are two options that are typically seen as lower risk. They are appropriate for holding your emergency fund, rainy day money or this month rent. Investing is much more suited to the money you don’t need in the short term, for example, your retirement savings or a fund for your child’s university education.

5. Diversify your investments

Rather than zero-in on some stock you think will perform well, diversify your investments. This way, if one part of your investment doesn’t do well — you haven’t lost everything. Diversifying your portfolio means choosing a mixture of stocks (riskier, with more opportunity for upside), government bonds (little downside risk, but also smaller upside potential.) and real estate.

To truly diversify your portfolio, you should also invest money across different countries. When the market in one country dips, your entire investment portfolio won’t fall. If all this portfolio diversification talk sounds like hard work — that’s because it is. Automated investing is a good alternative for someone who wants to diversify their portfolio but doesn’t want to go to the effort of buying multiple assets such as stocks, bonds and real estate by themselves.

6. Invest for the long-term

If you can — invest for the long term. Many studies demonstrate that investors who hold onto stocks for more than ten years will be rewarded with higher returns that offset short-term risks. That’s not to say this trend will continue, or that risk is ever totally eliminated. Risk never disappears, but you might say it mellows with age.

If you can put money away for a long time period, then you can afford to have investments that are typically more susceptible to rising and falling. Your portfolio can contain a mix of stocks and equities that are typically more volatile compared to bonds.

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Regardless of how long you’re investing for, diversifying your portfolio is an absolute must. One thing is also for sure — if you invest for a long time period you benefit from the power of compound interest. This is the process by which the money you make, earns interest on itself over time. The earlier you start investing, the more you benefit from compounding over time.

7. Watch out for high fees

Fees are the money you put into someone’s pocket rather than your own. Regardless of how you invest, you’re going to pay fees. What you need to watch out for are high fees. They’ll have a significant drag on your returns. You need to consider the value you’re getting in exchange for paying fees.

It’s well well worth paying a fee for a professionally-designed investment portfolio, that can be adjusted as your life changes. It’s also handy to have features like automatic rebalancing — this makes sure your portfolio always contains the correct mix of assets. Some online investment platforms have a great combination of these services as well as low fees.

The last thing you want to do is overpay fees. If you are paying 1-2% in fees, you could lose up to 40% of your expected investment returns over time. Because fees are so consequential, you should make sure that you aren’t overpaying for the service you are getting.

8. Make an investing plan and stick to it

One of the biggest reasons many investors have low returns is because they sell at the wrong time. They often base decisions on recent performance. They look at what has been doing well or not so well recently. Many investors tend to buy things that have appreciated in value and sell things that have declined in value.

Rather than do this, you should create a plan you will think will help you reach your goals over the time period you have to invest. Don’t stop investing because of bad performance. Stick to your plan without buying or selling based on your opinion of what will happen in the near future.

If you’re ready to put all these beginners investing tips to good use, find an investment platform. If you’re wondering which one to choose, we can help with that.

Which stock trading site is best for beginners?

Both first-time and seasoned investors will find the perfect combination of features and value at Wealthsimple. We offer low management fees, no investment minimums to open an account, ETF portfolios of stocks and bonds suited to any risk profile, as well as free, unlimited consultation with highly-trained portfolio advisors.

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If you’re reading this and thinking you have too little to invest - think again. You might be able to invest more than you ever thought possible by following these steps.

How can I invest with little money?

  1. Invest quarters at a time using a spare change app
  2. Set up small monthly transfers from your checking account
  3. Use a low-cost investing service
  4. Brew your own coffee, invest your Starbucks money
  5. Immediately invest any tax returns
  6. Invest any raises instead of altering your lifestyle
  7. Ask relatives for investing money, rather than other gifts

Basics of investing in stocks

Now that you have some quick investing tips — it’s time to learn the basics of how to invest in stocks.. Chances are, at some family get-together, a drunk uncle informed you that the stock market is “rigged.” Of course, that’s not true.

Investing in stocks online could not be easier. One of the simplest and probably the cheapest way is to use an online investment platform. It takes a matter of minutes to sign up and just need basic details like your address, phone number and social security number. The number of fees you pay varies by company but some financial institutions offer free stock trading.

Risk vs reward

The stock market is premised on the fact that investors will only invest if they’re compensated for taking the risk of buying stock. Think about it. Nobody would invest in any stock that they expected to rise 1.5% annually. You could potentially get the same or better returns from something like a smart savings investment account to any number of other investments that don’t have carry as much risk as stocks do. They’d be insane to take more risk in order to collect an identical return.

One way of looking at the risk vs reward tradeoff is through a concept known as the “equity risk premium” (ERP). This is an estimate of your expected return you gain from stocks. The percentage you can expect to earn on a stock over the so-called “risk-free rate,” the current interest rate you could get by putting your money in almost zero-risk government bonds. Without the potential for robust gains, all stocks would head straight to the basement.

Stock picking

You’d be mistaken if you thought that picking one stock is the way to benefit from this phenomenon. Warren Buffett, who will probably be remembered in history books as the world’s best stock picker, consistently advises anyone who’ll listen not to try to pick individual stocks, but rather diversify in order to benefit from the growth of the broader market.

Once quoth Buffett, the Omaha oracle: “The goal of the non-professional should not be to pick winners — neither he nor his ‘helpers’ can do that — but should rather be to own a cross-section of businesses that in aggregate are bound to do well.”

Why you probably won’t you win picking stocks? You may be very smart, but when you buy a stock at a particular price, you’re buying it from someone who also may be very smart and has access to all the same information that you do. You’re betting it goes up while she’s betting it goes down. Are you really so sure you’re smarter than she is? Stock picking is exceedingly difficult and those who do it should be prepared to lose a big percentage of their investment.

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Diversification

If what we told you about diversification has resonated — you’ll probably want to invest in real estate, bonds and a number of stocks. This is one way of spreading out your risk.

Let’s say you decide Netflix stock will give you the best return over time. And if history is any judge, it might. But what if Amazon figures out a way to eat Netflix’s lunch? What if tastes change, and people decide they’d rather watch YouTube videos of funny cats instead of expensive dramas? The stock would be toast, and so would your investment.

For this reason, you should not only diversify your investment by investing in many stocks but many different stock sectors (as well as bonds, real estate and other things). This means that if one single sector suffers a big setback, it won’t drown your entire portfolio. In the dot.com crash of 2000 many tech stock prices plummeted. Had you invested everything you had in tech companies you would have made a very big loss.

Investing in stocks via ETFs

The most effective way to diversify a portfolio is by investing in mutual funds or ETFs that acts as a wrapper for hundreds of different stocks or bonds; many of these will mirror the composition of well-known indices like the S&P 500. You can find a number of investment providers that allow you to invest your money in market tracking index ETFs.

Investors not only need to consider diversification, but they must also consider the what their investments are costing them. “Fees” they’re called, and they’re like the termites of investing — always eating and never satisfied. Actively managed mutual funds have what’s called a management expense ratio, or MER, which is the percentage of the entire fund that the mutual fund company assesses annually to pay its managers, support staff, for advertising, rent, and about anything else you could think of.

In the US, a 1% MER is not uncommon, and it’s more likely to be closer to 2% in Canada, and whether the fund value increases by 15% or loses 5% over the course of a year, that percentage will always be lopped right off the top.

Though it might not even sound like that much, this financial advisor demonstrated how a mere 2% MER could decrease investment gains by half over a 25-year investment.

But surely these fund managers must be so great at picking stocks that their fees are justified? Au contraire! Recent research reveals that over a fifteen year period, 82.2 percent of managed stock funds have been bested by the overall market. For this reason, many investors have jettisoned the old mutual fund strategies of their parents in favour of low-fee passive ETFs that seek to mirror the market rather than beat it, since MERs of passive investments are generally a fraction of those of actively managed funds.

Real Estate investing basics

There’s an entire genre of TV shows that make it appear as though buying and flipping real estate is the modern equivalent of alchemy. You’d think just about everyone has the amazing ability to turn drywall and vinyl siding into gold. Those who buy property hoping to get rich quick should understand the dangers.

Real estate is a business that comes with huge, expensive complications, ones that can potentially ruin unsavvy speculators. Any back of the envelope calculation of investment return must take into account expenses such as property taxes, insurance, and maintenance.

Canadian business guru Joe Canavan, founder of GT Global (Canada) and Synergy Asset Management, looked at the numbersand realized, that over the last 25 years, the S&P TSX Composite Index was up by about 325%, while during that same period, the average home price across Canada increased about 200%. That said, buying a house has been for generations a kind of forced saving plan for undisciplined investors; it might not be the absolute best investment, but without that monthly mortgage payment, they might not have saved anything at all.

Those seeking diversification in their portfolio in addition to stocks and bonds can invest in real estate without any of the headaches that come with actually owning a house or apartment. Real estate investment trusts, or REITs, are companies that sell shares in their various real estate investments. Just as diversification is important in stock holdings, REIT investors can spread their risk among dozens or even hundreds of REITs through REIT ETFs, of which are literally hundreds to choose from. REITs also offer some major tax benefits that neither home ownership nor investments in stocks or bonds, offer.

Ready to put all your new knowledge to use and start investing for real? When it comes to this plug, we’re as biased as they come, but we’re of the opinion that Wealthsimple is the absolute best home for a first-time investor. We offer state-of-the-art technology, low fees and the kind of personalized, friendly service you might have not thought imaginable from an automated investing service. Convinced? Sign up now or find more details here.

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