Investing in the stock market is one of the best ways to get wealthy. However, there is a lot you need to know at the beginning and even more traps you could fall into.
But well, I have to admit, that you will find this kind of post on every single personal finance blog out there. So why do I think it still makes sense to write it?
- I want my audience to have fast access to it and don’t need to look at other pages for information.
- I’m pretty sure that most of the blogs won’t cover some of the tips I point out.
- My Twitter audience gave me some great input and I wanted to share this with you!
Some of the points, I’ve listed below are inspired by the help of others. Therefore, I want to give a special thank you to Damn Millenial, Jimmy of The Compounding Dollar, Jordan from Money Maaster, the guys from Money Done Right, Greg from Mawer Money, and Warren Buffett (this guy should have a blog, too)!
So without further ado, let’s dive in.
1. Start early
Man, this is the single most important advice! I have written a whole post about why it’s important to start early with a really impressive example of two guys who started investing at different ages. Make sure, to check it out!
To make it short, there are several advantages of starting early. Your money can compound for a longer time and if you don’t know what compounding is, think of a snowball that rolls from the top of the mountain and accelerates and grows exponentially.
The same can happen to your money if you start soon enough. You want your snowball (money) to reach the bottom of the mountain and not just rolling a few yards but you need to stop it before it is popping off. This can happen if you need the money for retirement.
Another benefit of starting investing early is that you will fail sooner. You’ve heard that right. You will make mistakes, I did so too and wrote a blog post about them so you can avoid those. The good thing about failing early is that you learn from these mistakes and can avoid them when there is more risk involved. Later in your life, at the age of 55-60, you don’t want to lose a lot of money because of them.
Lastly, you just have more time to recover. Think about it, if you start investing at the age of 55 and want to use the money 10 years later for your retirement but the market has a huge crisis during these ten years, there will be no time left to recover. If you start in your 20s or 30s you have still enough time to overcome any market crash and even use those for some bargains.
2. Shut out the noise
This is as important as #1 of my tips. You can’t believe how much you will miss by listening to others.
I will give you an example:
A few months ago, I’ve talked to a friend of mine about buying stocks. He said some things like: ‘You are dumb, you will lose all of your money! […] You can’t learn to invest just by reading a book otherwise, everyone would do it. […] Then even pick something safe like gold. […] Don’t do that now, wait until you have at least 50k on the side so a loss is not that drastically.’
There were so many stupid things said in just one single conversation lasting less than 5 minutes. The very important thing to note here is that he never read a book about investing and uses a mutual fund of his local bank (which statistically fails to beat the market 85% of the time).
I really believe that you don’t need to be an expert or a hedge fund manager to learn the basics about investing and pick a safe ETF that tracks the market. A single index fund of the S&P 500 that would beat 85% of all mutual funds without a huge risk.
I also disagree with his suggestion to simply pick gold and especially argue against his opinion to wait until you have 50k. I’ve pointed this out before, the biggest mistake you can make is not picking the wrong stocks but didn’t even start in the first place. So listen to yourself and your analysis and not to others who obviously don’t know what they are talking about.
Hypes and the experts on the TV channels
This goes along with not reacting to hypes, trends and the experts in the TV shows. Don’t buy Bitcoin because cryptocurrencies are the next big thing or any analyst have said that you will miss a lot of money if you don’t invest in that right now. Don’t try to find the next Facebook or Google. Just have a long-term plan and be patient. Time is on your side. Also, don’t listen to those chicken little’s when they say you need to sell immediately because the next crash is coming.
They don’t know when the next bear market comes. I don’t know when it comes. But if you have bought good quality stocks you should be fine by sitting this out and even buy some cheap shares of good companies because everyone is selling right now and listening to those ‘experts’.
I end this tip with a quote of Warren Buffett:
Be fearful when others are greedy and be gready when others are fearful.
If the price drops, this is not bad but a great opportunity for bargains. If one stock is praised to be the next big thing there are already enough investors in and the winners of this trade are already out or about to sell their stock to you.
3. Have a long-term plan and stick to it
Don’t look for short-term gains. The stock market is no getting rich quick route. If you don’t want to devote your whole spare time to it, just go the safe path. There are several ways to do this, I can recommend you to buy index funds at first. If you want to dive in deeper, and after you have invested at least 1 year, you can go for another strategy like Dividend Growth Investing.
One thing that can help is having a long-term vision. Don’t see yourself rich in 3-4 years. But how about a bright future and being financially independent in 15-20 years from now?
I know, these headlines like “See what I’ve learned from the #1 Bitcoin expert and get rich in 6 months” sounds sexier than “Be conservative and become wealthy in 20 years”. But let me borrow this question from Ramit Sethi:
Would you rather be sexy or rich?
I can tell you for sure that people on parties will be more interested in the guy who says “I have made $5,000 with Bitcoin in the last year” then your story of buying a share of Johnson & Johnson and have a very safe dividend that will be increased every year like the last 55 consecutive years. Even if this is much safer and is probably by far a better investment decision. It’s not sexy enough. But again, do you want to be sexy or rich?
Build a long-term plan and stick to it. Make monthly contributions and if you want even automate your investments with Dollar-Cost-Averaging. Don’t listen to others but believe in your system. You don’t have to be an expert and you should definitely not listen to all of those (wannabe) experts.
4. Keep it simple
This goes hand in hand with the point above. Don’t try to find the next hot stock or do a super-crazy evaluation. You don’t need the most complex system to be successful in the stock market. Again, a simple index fund that tracks the S&P 500 would have made you about 8% per year over the last decades.
I don’t know what you think but I would love to have 8% annual returns. This takes care of the inflation (roughly 3% on average) and also raises your portfolio nicely.
You don’t have to spend 10 hours per week to know everything about the market and read newspapers. Simply pick an ETF after a good evaluation upfront and after that automate as much as possible. You can also easily find good dividend stocks without much work.
One word about automation, I’ve said it before that Dollar-Cost-Averaging is a great way of removing emotions from your investment. You can also use a savings plan for the stock you’ve picked and your broker or the company itself will automatically put the money into that stock every month. The big benefit is that you have to do the evaluation once and check back every year if it still works for you. You don’t have to care about finding the best company every single month.
Just keep it simple and use most of your time for stuff you like to do. This makes it even easier to stick to the plan and don’t quit or forget about buying stocks after a few months.
5. Don’t lose money
You probably have heard of Warren Buffett, arguably the best investor of all time and one of the richest men alive. Do you also know what his two investment rules are?
Rule No. 1: Never lose money.
Rule No. 2: Never forget rule No. 1.
What does he mean with that?
Don’t gamble, don’t buy stocks if you don’t know enough about them, don’t pick stocks and say “it’s okay if I lose money on that”. Do your homework. Make sure that you are not losing money on your stock picks. It’s okay if you just receive 6% annually on an investment if it is a safe bet. Be patient and don’t go for stocks that could make 100% in 1 year but have a very high risk.
You want to be a defensive investor and first protect your downside. Don’t strive for the big yields and returns. Look for good companies or ETFs and you should be good to go. I rather sleep well at night than picking hot stocks and don’t know if all of my money is gone tomorrow.
6. Diversify your portfolio
Think about this like in the following example:
You have a job, 3 children and a wife and just a single-income (SIWK). What happens if you lose your job? Correct, you have no income at all! The same happens if you buy a stock and exactly one stock.
Okay, if your evaluation is good you should be pretty safe. But no one knows what the market does next and your great company could be obsolete from there on. Betting on just one horse is dangerous. Sure, with index funds you have several companies but only one market. It’s crucial that you are investing in more than one company.
So make sure that you own companies from:
- More than one market (EU, NA, Asia, etc.)
- Not only one industry (Health Care, Utilities, Insurance, etc.)
- Different market caps (Small, Medium, Large Cap)
I know, it’s hard if you have found one company that has a very high yield and looks like the perfect fit for your portfolio to look for others. As soon as you go to other markets you have to care about exchange rates, etc. This will probably hurt your gains a little. But the most important thing is mentioned above. You want to be a defensive investor and if you have 25-30 companies that are very safe, have different market caps and are in various markets and industries you are less likely to lose money. Make sure you start that soon enough. You don’t have to go in abroad markets from day one. But after you have gained some knowledge you should definitely start doing it.
Where to go from here?
Okay, let’s assume that you’ve already started investing and have set up your system for the long-term. However, you still want to improve your returns by adding some more advanced techniques to your investor skillset. What to do in that case?
I have two suggestions for you.
- Learn more about accounting.
- Read annual reports.
Again, these are more advanced things you can do to improve your investments. Anyway, if you know what the values in the balance sheet, cash flow, and income statement mean, you are much more likely to find traps and flaws in companies that look great in the first place.
I am just starting to teach myself more about accounting but I can recommend you to read Financial Statements: A Step-by-Step Guide to Understanding and Creating Financial Reports by Thomas Ittelson and Reading Financial Reports For Dummies by Lita Epstein.
Annual reports, on the other hand, have much information from the company and can give you hints about what’s going on. It can be tedious to read those. But well, if you can decrease the risk of a big loss or even increase the chance of a big win you should probably read those from time to time. You find them normally on the website of the company you are interested in.
So what do you think about those tips? Anything you want to add to this? Or have those helped you to get started? Let me know by leaving a comment below.