The 2018 Finance and Markets Guide to Investing Success.
Investing in Stocks while young is a guaranteed path to early retirement.
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Guide To Investing: Introduction
Any guide to investing will tell you, a healthy portfolio of income generating assets is the key to independent wealth. I’m not talking about wild riches from trading the markets although that too is possible, if you have the stomach for it. I’m talking about investing for cash flow, enough cash flow to pay the bills, take care of life, buy a few comforts and allow you to live the life you want. In this guide to investing I’ll go over some basics to help new investors get on their feet in 2018.
Investing definition. The practice of putting money to work with the intent of getting more back than what you put in. When it comes to investing with little money there are three ways to make money; capital appreciation, dividends/interest and a combination of both. The trick is finding the right investments, buying them at the right time and of course, selling them at the right time too.
What most investors fail to realize is the difference between trading and investing. While investing does include trading, trading is not investing. An investor looks to own and hold an asset for a longer period of time than the average trader and ultimately may not care if the assets price moves at all. Assuming of course the dividend or interest payment is sufficient to satisfy the needs of the individual.
Investors seek to make money from an asset; an asset is typically anything that pays the holder for owning it. A stock that pays dividends is a source of income and asset, a stock that does not pay a dividend is more likely a speculation and as such is much, much riskier. An investor may choose to reinvest dividends to build the position over time where a trader looks to get in and get out quickly, making his money from the short term movement of price.
Guide To Investing: Look To Earnings
Not to put to fine a point on it but earnings are what drive the market. Yes, day to day news and events, fundamental economic activity, they all play a part but it is the earnings that make market prices go up and down over the long term. A good company will go up in a down market while a bad company will still go down in a good market. Money drives the market.
The 2018 earnings outlook is stellar and this means profits for those investing in stocks. With economic growth and expansion of growth expected over the next 2-10 years it can be safely assumed that earnings will remain strong for some time to come. This means that most sectors will see gains over the next few years but for market beating performance it takes a little more digging.
The top three sectors in terms of expected 2018 earnings growth are Energy, Financials and Materials. The energy sector is expected to see growth of 42.2% and those estimates are rising along with oil prices. Financials and materials lag with estimates of 21.4% and 18.6% but still quite robust. These sectors should see the biggest gains in the coming year and are likely targets for those who want to invest in stocks.
Investing For Dummies: Equity Investment Types
Equities are by far the easiest asset class for smaller investors to access. They also make up the lion’s share of investment opportunities as there are many thousands of stocks, mutual funds, closed end funds, ETF’s and indices to choose from. Investing in stocks is easy, all it takes is an account with a licensed and regulated broker such as seen on TV. Once the account is verified and funded purchases can be made with the click of the mouse.
Stock/Equity – Stock is known as an equity share of a company and entitles the owner to a share of company profits. This is because when you own a stock you literally own a piece of the underlying company, just like the equity in a mortgage. The terms stock market and equity market are synonymous if often confused by the uninitiated.
Stocks, unlike an option, gives the owner an equity ownership in a company that will not go away until the position is sold or the company goes out of business. Reasons for investing in stock are numerous but tend to revolve around two things; dividends and capital appreciation. Dividends are a share of corporate earnings paid to equity shareholders. Capital gains are increases in value to the underlying stock that result in profits when sold. For example, if you buy a stock at $10 per share and sell it at $12 per share you have made $2 per share in capital gains.
Mutual Fund – A mutual fund is a professionally managed stock fund (or bond fund) that pools the money of investors and invests according to a predetermined plan. Mutual funds are attractive investment vehicles for less sophisticated investors because they do all the work for you. The manager chooses the strategy and all investment decisions. Every fund has some form of strategy be it index tracking, dividends, growth or indusry specific exposure.
Investors share in the profit but face a number of headwinds. The first is fees, mutual funds have the largest fees of all actively or passively managed funds. The second is liquidity. You can only buy and sell mutual funds after the market is closed. This is because the fund manager must determine the value of the fund on a per share basis and that can only be done at the end of the day when trading on the underlying stocks is halted.
Closed End Fund – Closed end funds are much like a mutual fund with one major exception. Closed end funds have a limited number of shares where mutual funds can have an unlimited number of shares. When an investor wants to buy a mutual fund they sends money to the manager and that person buys more equity shares to equal the amount of the new investment.
If an investor wants to own a share of a closed end fund they have to buy one that already exists and to do that they have to buy it from someone who already owns one. This set up allows the closed end fund to trade on the open market like a standard equity position. Closed end funds, CEF’s, can be focused on a sector of the market or style of trading and there are many types including fixed income and equity. They often deliver high returns and can be purchased at a discount to the value of the underlying investments.
Exchange Traded Fund – Any guide to investing will tell you, exchange Traded Funds, ETF’s, have just about taken over the market. They are referred to as passively managed versus the aforementioned actively managed funds. This is because they are usually pegged to an index, sector or other target group that limits the funds ability to make changes. This results, usually, in higher rates of return and lower fees versus the actively managed peers. There are a wide range of funds to choose from, the most popular may be the SPDR line of US index tracking ETF’s. This group of fund mimics the action of the S&P 500 and the 11 underlying Standard & Poor’s sectors.
Investing In Stocks: Diversification
Diversification, it’s what any investing 101 will tell you to do. What those investing for dummies guides won’t tell you is that diversification can be a two edged sword. You don’t just buy diversification, you have to build it and for smaller investors that can especially difficult. The concept is based on the idea that when one sector or asset class is down is another up so when investing you should spread your money around.
In practice successfully investing in stocks is a little more difficult. Smaller investors may not have the capital to build a truly diversified and theoretically “safe” portfolio.
There are 3 main classes of assets everyone should have in their portfolios and within each of those dozens if not more sub-classes, sectors, sub-sectors and industries from which to choose. When investing in stocks try to target as many different sectors as possible.
Smaller investors should beware the urge to “over” diversify and instead focus on building individual positions with a systematic approach. Over-diversifying could result in net losses as commissions pile up and eat away at profits you may gain.
- Our guide to investing tip: Small investments for beginners are best, and then slowly build positions over time.
How to invest $20? Save it until you have $100 and then save that until you have $1000. $20 is barely enough to cover the commission on a single stock purchase. $1000 is enough to buy 100 shares of a stock trading under $10. The mantra for new traders is this; small investments big returns.
The three main classes of assets in our guide to investing for dummies are equities, fixed income and real assets. The adage is that you should invest your age as a percent of your portfolio in fixed income, a smaller amount in real assets and the rest in equities. A person aged 44 might choose to have 44% of their assets in fixed income, 10-20% in real assets and the remainder in equities. There are lots of great investing apps on the market to help keep up with it all.
Fixed Income – Fixed income invariably means bonds. Bonds are a means of raising money used by businesses and governments. They pay a fixed rate of return in exchange for the loan you are giving them. Bonds typically return in the range of 1-5% per year although this range can vary greatly. High yield junk bonds may return 10%,15%, 20% or more depending on market conditions. Bonds are typically thought of as lower risk but this is not true, there are a wide range of bond types ranging from low risk AAA prime rated corporate bonds through super high risk DDD bonds from companies who are already in default.
Bonds should make up a substantial portion of the portfolio because they deliver a guaranteed return. When investing in stocks, exposure to fixed income can be gained by investing in companies and funds that in turn invest in bonds. At last count there were more than 330 ETF’s and funds focused on fixed income.
Equities – More often than not investing in equities refers to investing in stocks. Stock are shares of ownership in corporations and other business entities designed to do business, make profits and deliver returns to their shareholders. Equities are thought to be more risky than bonds and that is true, they tend to be more volatile and suffer from market pressures in a more protracted manner than fixed income but they are also investments with high returns.
Within equities are 11 major sectors as described by Standard & Poors. Within the 11 sectors are hundreds of sub-sectors making the task of choosing the best stocks to compliment a portfolio very difficult. This task is made easier through indexing, ETF’s and managed funds which allow investors to buy a basket of stocks in one purchase. The only downside is that there are fees that will eat into potential profits. The SPY, the S&P 500 index tracking stock, is the most well known ETF fund in existence. It allows investors to buy the broad US equity index and own a piece of all 500 companies at a much lower cost point.
Real Assets – Real Assets is the oldest asset class in existence but has only recently come into vogue as a means of portfolio diversification for investing in stocks. The reason is because it can be a hedge against inflation, because many of the underlying assets are pegged to the dollar it has some protection from interest rates and the easy money policy that has been driving world expansion the last 10 years. Real assets includes natural resources, commodities, real estate and infrastructure. Looking forward, the asset class is expected to get a boost from global economic expansion and specifically Trump’s pledge to spend on infrastructure. Stock market investors can exposure to real assets by investing in companies engaged in the business of real assets or funds that invest in real assets. The BrookField Real Assets Income Fund (RA) is one such. It is a closed end fund targeting debt securities (bonds) and equities issued by companies in the business of real assets.
Investing For Dummies; Cryptocurrency
Cryptocurrency – Like it or not cryptocurrency is a new and emergent asset class that is here to stay. What most don’t understand is that the term cryptocurrency is a misnomer. Yes, they are tokens used to power blockchain technology and similar to money in that respect but no, most are never intended to be use like fiat currencies. When you invest in Bitcoin you aren’t exchanging your dollars for another type of money like you do when investing in currencies, you are buying a piece of the technology that makes Bitcoin work.
- Investing for dummies tip: A small, speculative position in cryptocurrency is a good choice for most portfolio’s. Cryptocurrency is here to stay, the early adopters are being rewarded for providing liquidity for the new system.
Blockchain technology is powerful is will dominate the financial markets of the future. The early adopters are being rewarded with big gains for 2 reasons. The first if for taking the risk on a new and emergent tech, the second is for providing liquidity for systems until they are independently sustainable. There are few means of exposure to cryptocurrency by investing in stocks but there are some. You can find out more in our guide to investing in cryptocurrency.
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