The Complete Guide to Buying Stocks for Beginners
Our mandate at Nanalyze is to write about investing in emerging and disruptive technologies. Over the years, we’ve noticed many first-time investors gravitate toward our content because they heard about [INSERT TECH THEME HERE] and they want to invest in [INSERT TECH THEME HERE] stocks. We can help with that. We’ve spent the last decade researching and investing in disruptive technology stocks. You’re not paying us any fees and we have no ulterior motives: We simply want to share with you what our advanced finance degrees didn’t teach us – that becoming filthy rich is a long and boring process.
We don’t have a crystal ball, but a proven methodology that we’re going to share with you so that you understand how we reach each investment decision. More importantly, this teaches you how to apply the same process for making smarter investment decisions on your own.
But you have to crawl before you walk into the high-risk, high-reward world of high-tech stocks. We need to run you through some of the basics – lessons learned from the same mistakes that most beginning investors often make. We’ve produced this complete beginner’s guide to buying stocks for new investors who have decided they want to find “the best stocks to invest in.”
Let’s start by talking about what we’re not going to cover.
Just the Stocks Ma’am
Hundreds of personal finance blogs will tell you about the importance of living below your means, paying down all debt as a priority, and saving money from each paycheck. We’ll gloss past all that and assume that you’re smart enough to have accumulated money that you’d like to invest in stocks. We’ll also assume that you’re familiar with the notion of asset allocation, which is how you diversify your wealth across multiple asset classes. (This is the don’t-put-your-eggs-in-one-basket philosophy.) The term “asset class” refers to popular types of investments such as real estate, stocks, and bonds. Other more obscure asset classes include:
Today, we’re only going to talk about stocks. We’ll start with something we refer to as “core holdings.” Before you start thinking about stock picking, the majority of your capital should be in core holdings that represent a diversified portfolio of stocks. Everyone may have a different opinion of what “majority” means, so let’s say 80% of your wealth should be in assets that let you sleep well at night. More on that in a bit. First, let’s dispel some myths and introduce you to some simple best practices.
The Best Stocks to Invest In
It’s impossible to cater to everyone’s unique situation, so we’re going to write this from the perspective of the average American newbie investor who is the type of person that would ask Google, “What are the best stocks to buy right now?” It’s a popular question:
That mindset is what might lead to an experience like this:
- Newbie investor opens brokerage account
- Asks the Internet what stocks to buy
- Picks a pundit peddling some exciting stock and puts all eggs in one basket, hoping to find the next Microsoft
- If stock rises, attributes it to Nostradumas-like clairvoyance for investing
- If stock falls, panics and blames pundit
Anyone out there who tells you what stock they think you ought to buy without mentioning the importance of diversification does not have your best interests in mind. This brings us to the first important thing that beginning investors need to realize.
The Next Microsoft Myth
There is no such thing as “the next Microsoft,” a stock that reaped rewards for patient investors who were able to manage their emotions and not sell it for decades. You will not be able to outperform the market by stock picking. When 95% of investment professionals can’t beat the market, don’t think that you’ll be able to figure everything out in your pajamas on a few Saturday mornings by reading what a bunch of Fools are saying about the next 5G stock that’s about to blow.
Understanding that you will not become wealthy by picking the “best stock” is something you need to accept. Do not underestimate the psychological impact of putting all your eggs in one basket. The book Reminiscences of a Stock Operator is a timeless classic that talks about how emotion simply wreaks havoc on your returns. Diversification helps you sleep well at night.
The Penny Stock Myth
A common misconception for beginner investors is to think that a $10 stock is cheaper than a $100 stock. This may explain why so many beginner investors gravitate towards penny stocks. We cannot overemphasize how bad an idea it is to begin dabbling in penny stocks. In fact, we wrote an entire piece on why Investing in Penny Stocks is For Dummies.
It’s About Time in the Market, Not Timing the Market
The next thing you need to think about is how long you plan to hold your positions. Some people think that active stock trading is the way forward for the beginning investor. Forget any of that absolute shite you read on social media about generating passive income from day trading. The below diagram will give you some indication of how bad an idea it is for you to think that you’re going to become some rockstar by day trading.
All the pundits love to tell you what stock to buy, but they won’t be there to tell you when to sell it. You should always make investments where you have a long-term timeframe – five to 10 years or longer. We’re investors, nor speculators. Our mantra is buy and hold. You never sell unless some major company-specific risk rears its ugly head, and you feel the situation has dramatically changed. We cannot overstate the importance of time in the market. Anyone who tries to tell you they have a trading system is full of it, especially if they start talking about binary options.
The best thing you can do is start investing today. The more time you spend in the market, the more richly rewarded you will be.
The first exposure most people get to investing is a 401K provided by their employer. You should maximize those contributions. If your employer is matching in any way, you are leaving free money on the table by not maximizing those contributions. There are plenty of personal finance blogs out there that explain the tax benefits of a 401K, so we’ll leave it at that.
What you may want to do is check the fees you’re being asked to pay. The average mutual fund charges way too much for absolutely no value add. A startup called Blooom will help you evaluate your 401K allocations and optimize them with low-fee investments. If you want to do this yourself, any investment product from Vanguard is generally solid. For many people, their 401K is their only form of savings. For those who have savings beyond your 401K that you’re looking to invest, read on.
Your Core Equity Holdings
There are three routes we will talk about for investing the lion’s share of your wealth in a diversified portfolio of stocks we’ll call your core holdings. Investors with a very low risk tolerance will want to consider one of the greatest things to come out of fintech for retail investors – robo advisors.
In the past decade, we saw the emergence of robo advisors. In a nutshell, robo advisors simply take the same private wealth management tools that a human financial advisor would use and then automate them, simplify them, and externalize them. The fees are minuscule, and they’ll invest your money in a broad portfolio of exchange traded funds (ETFs), which give you exposure to stocks and bonds, with the ratio changing as you age.
This is bog standard financial advisor stuff, and there’s no reason you should ever pay a human to do this. Sure, financial advisors will talk about how important it is that you pay their fees so that they can hold your hand as you walk through the big life events – college, marriage, divorce, etc. The truth is, you don’t need to pay someone to do what a robo advisor does. Rest assured, that guy in a Ferragamo tie who takes the train in to work hasn’t figured out the secret to becoming wealthy. Best case scenario, you get a robo advisor-like investment portfolio. Worst case scenario, the advisor loses your money through incompetence, or does what 95% of active managers do – fails to outperform a broader market benchmark.
As for which robo advisor to choose, we recommend Betterment, which is one of the biggest robo advisors with more than 500,000 clients. They’ll build you an investment portfolio that’s tailored to your unique situation, and they are even starting to allow some customization. If those customization options aren’t enough, just create your own portfolio of ETFs.
A Portfolio of ETFs
The next option might be to pick your own mix of ETFs based on what you feel comfortable with buying. You might look at how Betterment models its portfolios and cherry pick ETFs that match your outlook on the market. At this point, you are taking active bets, but you can’t get yourself in any trouble unless you do something dumb like put all your assets into a single thematic ETF. If you’re going to pick a bundle of ETFs to invest in, you can’t go wrong sticking with Vanguard, which boasts some of the lowest fees around. These ETFs track various markets benchmarks, with loads of assets under management (AUM), which means they can charge very low fees. When you invest in vehicles that track benchmarks, that’s called passive investing. Now, we’re going to introduce you to active investing.
This next strategy is more risky than the other two, but we believe the rewards outweigh the risks. That’s because we’ve served hard time at some of the most elite financial firms on this planet, and we’ve seen just about every way that Wall Street can fleece retail investors of their money. That’s why we spent nearly a decade developing our own dividend-growth investing (DGI) strategy called Quantigence, which helps investors select quality DGI stocks. Every stock in our universe has not only paid a dividend but increased it for at least 25 years in a row. That’s the sort of track record that helps ensure they’ll be able to keep that up for years to come.
The majority of our money is in a well-diversified 30-stock DGI portfolio that we plan to hold indefinitely. We only consider selling a stock when a company stops increasing a dividend and break its track record. When DGI stocks we’re holding drop in value, we don’t talk about “losing money,” we use this as an opportunity to buy more. You can read the basics of our investment strategy in this article – Quantigence – A Dividend Growth Investing Strategy.
For Nanalyze Premium subscribers, we’ll walk you through the entire process of creating your own DGI portfolio and show you how we arrived at the 30 stocks we hold today. You want to be told what stocks to buy? This is the best answer we can give you. It’s also where we’ve invested our own money, so we’re eating our own dog food. We’re also developing a calculator for subscribers to calculate their own Q-scores, making it easier to choose which dividend-growth stocks to hold.
Let’s summarize the three ways we’ve discussed to establish your core stock holdings.
- Robo advisors – low fees, easy to set up, optimizes your allocation as you age, provides certain tax benefits, low risk
- ETFs – low fees, provides you with more flexibility in what you’re invested in, lower risk
- DGI Stocks – provides increasing income every year to offset the effects of inflation
Now, let’s talk about a third important rule.
The Importance of Dollar-Cost Averaging
When you purchase stocks, you don’t enter your position all in one go. You use dollar-cost averaging to accumulate the position over time. This means you purchase a certain fraction of your target holding at fixed intervals.
For example, let’s say you want to invest $5,000 in Illumina. You might decide to purchase $1,000 in shares every first of the month for the next five months. When you spread out your purchases over time, you reduce market-timing risk and take the emotion out of the transaction. Here’s why:
- If stocks go up, you’re happy because your holdings have gone up in value, but sad because you’re paying more to buy the same stocks.
- If stocks go down, you’re happy to be buying cheaper assets, but sad that your holdings have decreased in value.
And let’s just be clear about one thing: The short-term movement of your stock portfolio is entirely irrelevant. You are in this for the long haul. Short-term price movements mean absolutely nothing. If a stock falls because revenues went to shite because of “the rona,” that’s a buying opportunity you should be completely stoked about.
If you are gainfully employed, you have recurring monthly income, and consequently you’re adding to your portfolio every month on a fixed date. You then continue to do that until you have enough income coming in that you no longer need to work. It’s a great feeling when that finally happens. You’re not even touching your capital, and you’re making money every month. That’s the beauty of a DGI strategy. If you’re a premium subscriber, we’re always here to answer questions about our DGI investing strategy. What we won’t do is tell you what to buy and when to buy it.
How to Buy Stocks
Now that you’re ready to buy stocks, we need to talk about how you can go about doing that. Gone are the days of the discount broker. Nowadays, stock brokers don’t charge fees. Back when TD Ameritrade charged $9.95 a trade, it was tough to engage in dollar-cost averaging, as fees eroded your returns. Today, that’s not an issue. Stock investing is practically free, which means lots of people are doing it. Any big-name online broker will work just fine. We use Charles Schwab because their platform is easy to use and Interactive Brokers (IB) because they offer access to just about every major stock exchange on the planet. (We also use IB to hedge our U.S. dollar exposure, a somewhat advanced but simple strategy that protects against the U.S. dollar falling on the global stage.)
What Tech Stocks to Buy?
In all likelihood, you’ve arrived here because of some stock or tech theme you read about and you want to invest in. Or you’ve seen the quality content we produce, and you want us to tell you what tech stocks to buy and when to buy them.
Regarding what stocks to buy, we’re in the process of putting together a living document that lists out all the stocks we’ve covered here Nanalyze that we believe present an acceptable level of risk vs. reward. These are stocks we invested in ourselves, so we’re putting our money where our mouth is.
You can read more about our methodology for assessing tech stocks in a piece we published titled How We Produce Nanalyze Premium Articles. We spend the vast majority of our waking hours researching and writing about tech stocks, but we’ve only invested in a small number. That’s because we’re risk-averse investors who understand – after many years of making mistakes – just how easy it is to lose money investing in tech stocks.
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