The reason why people invest in the stock market, rather than leaving all their money in a savings account, is because of the prospect of getting a better return than they would from their savings account. And it is true that historically the stock market has consistently provided better returns, on average, than savings accounts. The key words here, though, are ‘on average’ because there will always be some individual stocks that will underperform during your chosen time-frame.
For the beginner investor, there are several tips that are worth considering. These include:
1. Start small:
Don’t invest your entire savings into your first stock. Typically, all investors learn as they go along and should become better at determining which stocks are most likely to meet their investment goals. It’s best to use your initial few investments as part of a process of becoming familiar with the stock market.
2. Consider an index tracker:
You will often hear people recommending diversification as part of an investment strategy as it should, in theory, minimise your risk. The idea is that if one share in your portfolio underperforms, it should be compensated by another share that overperforms.
Of course, since this is your first trade you can’t diversify by buying an individual stock. However, you could choose to buy into an index tracker fund. The basis is that you buy into a bundle of funds and the value of the fund depends upon the overall performance of all the shares in the index. For example, your index tracker funds might follow the fortunes of the FTSE-100.
3. Decide on your investment strategy:
Do you intend to trade your shares frequently or adopt a long term buy and hold strategy? Do you want shares that offer the possibility of a big growth in the share price, or do you want a guaranteed dividend return? What criteria are you going to use to select the stocks that you want to buy?
If you don’t know the answers to this question, then you aren’t ready to start being an intelligent investor. However, maybe an index tracker fund could be the way forward as it removes the need to compare individual stocks.
4. Know your exit point:
The difficulty in investing is knowing when to sell the stocks you’ve bought. As the share price goes up and up, the temptation is to hold onto it. But then maybe the price will suddenly plunge and you might be left ruing your decision not to sell earlier.
Conversely, when the share falls, the temptation (especially for beginner investors) is to become spooked and sell the share, at a loss.
Knowing when to sell a share is, I think, the most difficult part of investing. Some investors choose to look at the P/E ration (Price / Earnings Ratio) to tell them whether a share is cheap or expensive, and use this to guide their decision on whether to sell or hold. Others use other techniques. The key, I think, is to have a pre-defined strategy.
5. Go with what you know:
Maybe you work for a company and you are confident that they are profitable and have a really good management team. You also know what products they make, how strong competition is and what customers think of the products. All things being equal, it’s better to invest with a company that you know lots about (as long as you know them to be good) than with a company you know little about.
6. Read up on the strategies used by famous investors:
When formulating your own investment strategy and style, it can be useful to read how some of the current and past investment greats made their money – people like Warren Buffet, for example. A good (and free) reference site for this kind of information is www.fool.co.uk
7. Do your own research:
Read up on the company whose shares you’re thinking of buying. You can get hold of their previous annual results and see what their past performance has been like and who their owners are. Past performance, of course, is no guarantee of future performance but it may help you to gauge how profitable they are likely to be and whether they have a good track record of being able to pay out a good dividend.
If you follow these tips, venturing into the stock market can be a very rewarding experience. Don’t expect your very first share purchase to make you rich overnight. It stands to reason that most investors become better over time, as they refine their entry and exit strategies. Good luck.