Introduction
Are financial freedom and building wealth part of your financial goals? If yes, you should learn the basics of investing and take steps to achieve your goals. Investing is the primary proven path to making your money work for you while you sleep. And don’t let the fear of losing money, the amount to invest, or complex financial terms hold you back. In this guide, we’ll show you how to start investing smartly from scratch.
Highlights and Key Takeaways
- Investing is the key to making your hard-earned money work for you to generate passive income, achieve financial independence, and build wealth.
- The amount you should invest depends on your goals, financial situation, and goals’ timelines.
- The main investment options are stocks, bonds, mutual funds, ETFs, commodities, and real estate.
- Your risk tolerance and financial goals determine the right investment options and accounts for you.
Understanding the Basics of Investing
What Is Investing?
Investing involves purchasing various financial assets, like stocks, with the expectation of generating a profit, regular income, or another form of return in the future. If you leave money in your current or savings account, it won’t keep pace with the rising cost of living or generate wealth. Instead, it’s best to use savings as a way of collecting the capital you need to invest or achieve other financial goals.
Investing allows you to:
- Save money efficiently for long-term goals, like retirement, by taking advantage of higher rates and compound interest.
- Ensure your savings keep up with inflation (rising cost of living).
- Generate passive income.
- Achieve financial freedom and build wealth.
Different Types Of Investments
Now you know the importance of investing. But what are your options? Below are the primary types of investment available:
- Stocks or Equities give you a fraction of ownership in a company. Public firms issue stocks to raise money for expansion, growth, and daily operations. When the stock price rises, the value of your investment increases. Some companies also distribute dividends, giving you a share of the profits either monthly, quarterly, or annually. But the downside of stocks is that the market is volatile and companies can go bankrupt leading to loss of capital.
- Bonds are loans to companies or government entities. So, when you buy bonds, you are lending money to that entity for a specified amount of time. In return, you get a percentage of interest during the loan period and your money back after the said time. Unlike stocks, bonds don’t experience much price volatility, generating lower returns while generally being less risky.
- Mutual Funds are a good option when you’re learning how to start investing and don’t want to manage a portfolio directly. They’re run by fund managers who pool money from multiple investors and allocate that money to a diversified portfolio of stocks, bonds, or other securities. This means you don’t have to worry about selecting the hottest stock or bond. Types of mutual funds include equity funds, bond funds, money market funds, and hybrid or balanced funds. Ensure you check the fund’s objectives, fees, and historical performance to select the right one for you.
- Exchange Traded Funds (ETFs) also offer a less involved way of investing money for beginners. These investment funds are similar to mutual funds as they hold a mix of assets like stocks, bonds, or commodities. But, the difference is that ETFs track the performance of a specific index or basket of funds. Since they require less management than mutual funds, ETFs are more cost-effective.
- Commodities are assets like agricultural products like wheat, precious metals, and energy products. Investing in commodities by buying physical products isn’t realistic. As a result, people buy them using futures and options contracts, which are high-risk investments. So, commodities are best for expert investors.
- Real Estate investing often involves buying a building, home, or land. However, there’s also the option of purchasing shares of a real estate investment trust (REIT) if you don’t want to own or manage a physical property. REITs are essentially companies that are involved in real estate and often offer higher returns than other assets like stocks.
After understanding the investment options available, it’s time to take the steps necessary to begin your investment journey.
Setting Your Financial Goals
Identifying Your Financial Goals
When learning how to invest, we often start by asking about the best asset to invest in and the ideal amount to invest. However, the most important question that will determine your investment options, strategies, and accounts is, “Why are you investing?”
Think about what you want to achieve by investing. Is it saving money for a home, funding a child’s college education, or building a retirement nest egg? Setting clear financial goals has several benefits, including:
- Giving you confidence in your future.
- Getting a clear direction and purpose to help you stick through with your investment strategies.
- Narrowing down investment options, prioritizing goals, and determining the risk you can afford.
- Tracking progress and making adjustments to reach your goals in the shortest time possible.
Not sure where to start to identify your financial goals? Here are quick and easy steps to take:
- List Short and Long-Term Goals: Assess your current financial situation, including income, debt, and other financial responsibilities to determine your short and long-term goals. Short-term goals are typically below three years, while long-term goals are beyond five years. Ensure your goals include the financial basics like paying off high-interest debt fast, maxing retirement accounts’ contributions, and building an emergency fund.
- Quantify the Goals: Attach a timeline and a specific amount of money to each goal. For instance, determine how much money you’ll need for retirement in the next 20 years or a house down payment in the next five years. When you have the goal amount and time horizon, work backward to break it down into monthly or weekly investments.
- Prioritize Goals: Rank your goals in order of importance and their timelines to ensure you address the most critical ones first. We have various financial goals but sometimes the money isn’t sufficient to allocate to all at once.
- Connect the Goals to Deeper Motivations: If you want to stick with your financial goals and do whatever it takes to achieve them, you need a strong why. Write what achieving each goal will mean for you or your family.
Understanding Risk Tolerance
With your financial goals at hand, you might feel ready to pick the investments to accomplish them. But not yet. Some financial assets are more volatile and riskier than others. And we don’t react the same way to the ups and downs of the financial markets. That’s why you should take time to understand your risk tolerance. It measures your comfort level with the potential uncertainty and market fluctuations.
For instance, how would you react if you bought stocks of a certain company at $300 and they fell to $150 after some news? Would you panic sell to avoid seeing the stock price go down further and make a $150 loss, wait patiently while getting relevant updates, or lose sleep at night?
You can assess and understand your risk tolerance by taking a questionnaire online. It will help you understand which assets will help you achieve your goals without staying glued to market movements.
Besides risk tolerance, it’s important to understand risk capacity. This refers to your ability to take risks, influenced by factors such as job status, emergency fund, goal timelines, and dependants. Your risk tolerance and capacity will influence the type of assets and investment accounts you use.
Creating Your Investment Plan
How To Allocate Assets
With a clear understanding of your risk tolerance and well-defined financial goals, you’re ready to choose investments. Asset allocation is your investment strategy or how you’ll distribute your capital across various asset classes.
There’s no one-size-fits-all approach for asset allocation, but knowing the risk-return traits of each investment option is useful. Typically, stocks have the highest return potential but also higher risk while bonds have a lower risk with lower returns. EFTs and mutual funds are also on the lower end of the risk-return ratio.
Most investment platforms offer model portfolios curated for investors with different risk profiles from conservative to aggressive. You can use such portfolios as guidelines to help you select the right mix of assets. Ideally, you should increase risk while young and gradually focus on capital preservation as you near retirement.
Also, asset allocation is not a one-time thing. You’ll need to monitor the performance and rebalance your portfolio with time.
Diversification: Why It Matters
One of the advantages of asset allocation is diversification. It involves spreading your investments across different asset classes, industries, and geographic regions. Remember, each investment option has its rewards and risks. With a well-diversified portfolio, you can reduce the impact of poor-performing assets on your overall portfolio.
So, even though you’re conservative and tempted to put all your money in bonds or treasury bills, having a percentage of your portfolio in stocks is crucial.
Choosing An Investment Platform
Evaluating Different Investment Platforms
You’re close to making your first investment. But first, you must choose a reputable and aligned investment platform. Let’s look at how to evaluate the different types of investment platforms available.
Online Brokerages
Online brokerages give you access to financial markets, allowing you to buy or sell stocks, ETFs, and mutual funds.
Start by researching the best online brokerages for beginners. But before creating a brokerage account with any one of them, check the following:
- The asset classes you can invest in using the platform.
- User-friendliness of the platform.
- Research and educational resources, including webinars, blogs, and video tutorials.
- Customer support.
- Regulation and licensing.
- Customer support.
- Years in operation. The longer an exchange has been operating the more secure it will be.
The upsides of using brokerage accounts to invest include uncapped income and capital investment. On the downside, these accounts are subject to tax on profits or income.
Robo Advisors
Robo advisors are automated online trading services. They typically ask several questions to determine your risk tolerance and goals. Then they create an investment strategy based on the answers and invest on your behalf automatically. Robo advisors also rebalance your portfolio to maintain the right asset allocation as the market moves.
The main advantages of robo-advisors are lower fees compared to human advisors, less capital requirements, and automated trade execution. The downsides include limited investment options, inability to handle complex services like estate planning, and inability to handle unexpected situations.
Check the following to choose the right robo advisors for your needs:
- Fees and other charges.
- Platform features to help you monitor your portfolio.
- Frequency of portfolio rebalancing.
- Asset classes available.
- Goal planning tools or features.
Traditional financial advisors
If you need help with in-depth financial planning, traditional financial advisors might be a good option for you. They will help you plan and offer personalized investment advice. Ensure you verify the credentials and reputation of the financial advisor or advisory firm by looking for certification and checking client reviews.
Making Your First Investment
Once you know the right investment platform for you, create an account to begin investing. You’ll need to deposit funds into your investment account and then buy the assets you desire.
Remember it’s okay to start small and invest consistently following your asset allocation strategy. But if you have a lump sum to invest, you can get higher returns with time because the markets rise over time.
Make regular contributions to your investments after your first one to achieve your financial goals.
Conclusion
That’s it. Investing doesn’t have to be complicated. You only need to understand the asset classes available, determine your financial goals, understand your risk tolerance, create a diversified portfolio, choose an investment platform, and make your first investment.
So, investing is not about choosing trending stocks or hunting down daily stock market tips. Instead, it’s all about making your money work for you in a way that allows you to achieve your goals without losing sleep at night. Ensure you start your investing journey now with regulated brokers to reap the benefits of compound interest (growth on growth) and take control of your future.
FAQ
How Should a Beginner Start Investing?
A beginner should start investing by understanding the available investment options and determining their motivations for investing. This will allow them to choose the right assets for achieving their financial goals.
How Should I Invest My First $100?
You can invest your first $100 by creating a brokerage account with a reputable provider and buying the right assets for your financial goals.
How Can I Grow My Money?
The best way to grow your money is to invest it in the financial markets. Understand how different investments work and create an optimized portfolio to see your money grow over time.
