If you’re looking to buy chicken stock for Nana’s famous clam chowder, get yourself right to the soup aisle at the supermarket. But if you want to own a small piece of a public company listed on a stock exchange — we’ve prepared a big steaming bowl of valuable advice for you.
How to buy stocks
Show up at Amazon’s Seattle headquarters waving a mitt full of money and you’ll sooner end up in a psychiatric ward rather than a shareholders meeting. The majority of companies require you to go through a brokerage or a registered individual broker. “Brokerage” is just a catch-all term for any entity authorized to buy stocks. This might be a human stockbroker or financial planner. So, if you’re wondering how to start investing in stocks, here’s how.
How to start investing in stocks
It’s surprisingly easy to get started investing in stocks. The process requires just three things: a broker to make the trade, money to purchase the investment, and an idea of what you want to buy. We can’t help with the money part, but we’ve got the other two covered here.
The easiest part of your journey to stock ownership will be to find a broker or an investment platform to make the trade. You could swing a lasso in any financial district and rope one, but in all likelihood, you’ll embrace the ease and minimal expense of investing online. The real challenge you now face is deciding exactly what you should be buying. An individual stock? A mutual fund? An ETF? Well, it all depends on your personal sitch.
Where to start investing in stocks
Thrifty, self-motivated investors who know exactly what they want will be best served by online brokerages, especially ones providing commission-free trading. Automated investing services are a reasonably priced, user-friendly way to invest. Financial advisors and human brokers offer the highest level of service but are also the most expensive option.
Stock picking is extraordinarily hard. There is no way of knowing the future price of a stock. Famously rich stock picker Warren Buffett has spent the last decades discouraging pretty much everyone not named Warren Buffet from trying to make money picking individual stocks, he proclaimed:
“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.”
So, it’s your job to decide if the folksy Yoda with the $81 billion net worth provides better stock tips than the mob of Redditors who proclaimed some stock or another “a can’t lose/must buy.” We side with the rich old man: smart stock investors are diversified stock investors. More to come on this.
How to buy stocks online
Buying stocks online couldn’t be simpler. The easiest, cheapest way is using an online broker or investment platform. Sign up generally requires a home and work address, a phone number and a social security or social insurance number. Fees vary by company, but some investment platforms offer no account minimums and zero trading fees.
Understand that stocks are by nature volatile—they can rise and fall precipitously. There’s a good reason every stock or mutual fund prospectus you’ll ever pick up includes the disclaimer, “past performance is no guarantee of future results.” It’s 100% true! The reason that stocks historically performed better than safer, conservative investments like government bonds is because investors are rewarded for risking more losses.
How to buy stocks without a broker
It is possible to buy stocks directly from companies like Coca-Cola through direct stock purchase plans (DSPPs). Since brokerage accounts can now be opened online in minutes and may offer commission-free trading, there’s no reason to avoid brokers.
Investors who have the nerve to invest in stocks are often rewarded handsomely for their willingness to wager that a stock will go up, but of course, they run the risk of losing some or all of their investment. No doubt you’ve heard of risk/reward—investors expect to be rewarded with money for taking on an increased risk of loss.
A person’s risk tolerance simply refers to how much he or she can afford to lose. For example, two people are considering investing $1,000. One will need money in two years for his kid’s university tuition. The other has $1,000,000 hanging out in her checking account and would otherwise spend that $1,000 on one pair of shoes. These two people have vastly different risk tolerances. Exactly one of these people has absolutely no business investing in the stock market. Our friend with the looming tuition bill would be better off keeping his money where there’s no chance it will disappear, like a solid high-interest savings account.
How to reduce risk
The most effective way to reduce risk is through diversification—owning a large array of stocks in many different economic sectors so that if one stock or even one sector suffers a major setback, it will represent only a very small percentage of a portfolio.
If one day Amazon delivery drones start attacking pedestrians and the stock craters, won’t you be better off if Amazon represents just 1/100th of your portfolio versus ½?
One simple way of receiving broad exposure to markets is by purchasing a mix of domestic and international ETFs (exchange-traded funds). Though ETFs trade on exchanges just like individual stocks, many contain dozens or even hundreds of stocks. With one single purchase, you’re able to track some or all of a country’s entire economy rather than putting all your eggs in one stock basket and zeroing in on a handful of stocks.
How to make money on stocks
There’s no sure way to make money in stocks, short of inheriting a magic pig that sniffs out tomorrow’s Amazon. A good option, with the potential to make money on stocks, is holding them for a long period of time. This period is often referred to by the Star Trek sounding term “time horizon.”
Those with very short investment horizons—like five years or under—should be incredibly cautious about their exposure to stocks. If you need money for a specific purpose in the near term, natural stock fluctuations mean it may not all be there when you need it. The most conservative will keep their money in a high-interest savings account or government bonds.
But various studies have shown that those with the patience to hold stocks for 10 or more years are more likely to be rewarded with positive returns that offset short-term risks. It’s a pretty simple lesson on how averages will eventually wash out the stock price outliers (which might be either good or bad). In other words, the more time you hold a stock, the less variable its price will be on average. Stocks are never precisely safe, but stocks held longer are safer.
When should I invest in the stock market?
Today is the absolute best day to invest in stocks. Without a time machine, it’s the soonest day possible. There is no perfect time to enter the stock market, but as you’ll see, the longer you’re invested, the likelier it will be that stocks will provide higher returns.
If you already know what stocks you want to buy, the absolute easiest, cheapest way to buy them is through an online discount brokerage. Accounts can be opened in ten minutes if you have a social security or social insurance number, a home address, and an employer’s address — even if, in the case of the self-employed, your bedroom is your office and casual Friday means “pants discouraged.”
Account minimums vary considerably in the minimum investment they require to open an account. They also normally charge a fee for each stock you trade. Most will assess a flat per-trade commission fee for any stock purchase, big or small, that generally range from $5-$10 per online trade. If you have a small amount of money to invest, look out for a provider that offers a low account minimum to open an account. Some, even offer no minimum investment to open an account.
Most brokerages do employ humans to execute trades, but they’ll charge a lot more if you need to use one. In the last decade, a few investment providers have started offering commission-free trading, so every cent you pay goes directly into your stock investment, not into the brokerage’s coffers.
How to buy a fractional share of a stock
Many well-known tech stocks like Amazon and Alphabet may be out of reach for all but the richest investors. Some tech stocks trade for well above $1,000 per share, but new services have popped up that provide fractional shares of investments.
While some services have started to offer fractional shares, and even gift cards, the absolute best way to get a fractional share is an ETF. When you invest in exchange traded funds (ETFs) made up of stock — you’re essentially owning fractional shares. Exchange traded funds are investments comprised of large swaths of investments from different stocks to bonds and real estate. Since ETFs trade on the stock market, buying a unit is as simple as buying a share in a company.
How to buy stocks with little money
Stock ownership is no longer just for the country club set. Even if you lack the money for a single share of your favorite company, many brokerages require no minimum deposits to open an account. They offer ETFs and mutual funds that provide immediate stock market exposure to any investor.
Beginners tips for investing in stocks
Nobody loves making up rules more than investment guru types. Many are certified garbage, but one keeper we know is called the 5% rule. This states that proper diversification means that no one investment or sector should account for any more than 5% of an entire investment portfolio. So you want Apple stock? Great, but it should be no more than 5% of your portfolio. Pharmaceuticals? Cool. But keep them below 5%.
One caveat: since mutual funds and ETFs often contain many individual stocks and sectors within them, you might very well hold more than 5% of your portfolio in one ETF or mutual fund and still be following the 5% rule.
How to trade stocks
Online brokerages make trading super intuitive. Generally, you’ll hit a “trade” button and enter the stock ticker symbol and quantity of stock to buy or sell. Some brokerages will ask if you want to trade it right now, at trading day’s end or when the stock hits a specific price.
What to look for when buying a stock
Stock picking is hard. So hard in fact that most studies show that even professionals paid to pick stocks will fail to outperform the overall market over the long term. Here’s why:
You, person who wants to buy a stock, are super smart (and, may we add, easy on the eyes to boot.) But you have to buy that stock from someone. That person might be super smart too, and she has exactly the same information you have (or, if she’s breaking the law, and engaged in insider trading, significantly more.) She has decided the stock is worth selling at say, $10 dollars a share because it’s definitely going to go down, and you’ve decided it’s worth buying at that price because it’s definitely going to go up. Who’s right? How sure are you that you’ve synthesized all the available information better than other investors? No offense, but what makes you so darned special?
For this reason, buying a stock is nothing like landing a $1,000 suit for $200 dollars. Through the law of supply and demand, the market has already worked all its special price discounting magic. All of the information the market knows is already baked into a stock’s price—revenue, growth and historical prices.
There are two main ways you make money on a stock. The first is if the company outperforms the market’s expectations. The second is through what’s called the “equity risk premium” (ERP), the percentage over the so-called “risk-free rate,” or the current interest rate you could get by putting your money in risk-free government bonds. Over the long term, investors will be rewarded for taking on risk, and an increased risk must go hand in hand with increased potential reward. This concept keeps stocks viable; if a stock wasn’t expected to outperform the risk-free rate, investors would just stick with the safe money and a stock price would crater.
But, if you understand the risks, there is nothing wrong with devoting a small percentage of your portfolio to one stock; there are now mobile apps that allow you to trade stocks with no fees.
One super easy way to test your stock picking talent. Write down your reasons for buying a stock, but don’t actually buy it. Wait for a predetermined period of time, and, if the stock moves the way you’d predicted for the specific reasons you predicted it would, you might be ready to put some real skin in the game.
Stock market terminology
Here are a few basic concepts that you should absolutely understand before you even consider buying your first stock:
Revenue growth: If a company is public, it means it must publicly share its financial status on a quarterly basis. Is it bringing in more money than it did last quarter? Graphing historical revenue numbers will show if a company is on an upward, downward or flat trajectory. A steady line upwards is a decent indication of what’s to come.
Historical price: This might seem obvious, but the longer a company’s been around, the more information you have to use to assess the general health of a company. If it has been able to weather lousy economic conditions, sector downturns and other business calamities and its stock has still managed to move up, they’re doing something right.
Earnings per share: Earnings are the amount of money left over after all a public company’s bills have been paid. Earnings per share (EPS) is simply that dollar figure divided by however many shares the company has sold. Higher EPS is obviously better and can drive a stock price upward, but it can be tricky because companies have been known to buy its own stock to reduce the number of outstanding shares, thereby artificially goosing their EPS numbers.
Price/Earnings Ratio: Since so-called P/E ratio is a number that can be computed for any public company, it’s the most prevalent way to assign relative value to stocks—it’s an apples-to-apples comparison, as fruit metaphor lovers say. Simply divide the current stock price by the earnings per share value of the last four quarters, and out will pop a number which reflects how many dollars investors are currently willing to pay for every dollar of annual earnings. For this reason, it’s often called the “price multiple.” The average P/E ratio of S&P 500 companies is around 15. A much lower number might suggest an undervalued company, and a much higher one an overvalued one. Or it might not! But it’s data—it’s up to you to decide if you agree or disagree with that number.
Dividends: Some companies offer dividends, a kind of profit-sharing program for investors. Investors receive a specific dollar figure on a quarterly basis that has no direct relationship to the stock price. (Though a company board may decide to increase or decrease future dividends it pays based on its financial health.) Researching dividend programs can be super valuable because in some cases, the dividends a company throws off can equal as much or more than one might expect to earn from a savings account. (Of course, unlike bank accounts and interest, stocks can fall and dividend programs can go away altogether.) Tracking if companies have consistently provided dividends, or even raised them, is one indication of a company’s health and possible future stock performance.
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