The following is a guest post from Maricel Tabalba.
Many individuals turn to the stock market as an avenue for growing their financial assets because, over the long haul, stocks outperform almost every other kind of investment. They ought to be careful, though, because there are countless details that could trip them up unless they take them into account and plan accordingly.
Institutional investors and well-connected Wall Street pros are old hands at the game, but if you’re a newer investor, it’s important to take responsibility and educate yourself before committing your financial resources.
Avoid Trying to Pick Winners
You may believe that you have what it takes to sort out promising stocks from trashy ones, but there are millions of others who feel the same way. Evaluating market prospects can be a full-time career in itself, and for now you lack the sophisticated tools and knowledge that big-time investors possess. An unwarranted level of confidence in your abilities will likely mark you out as a sucker.
Park your money mutual funds instead – by distributing your risk across a collection of investments, you will benefit from a smarter, more diverse starting portfolio. With a “basket of stocks” you’ll access the returns generated by the market as a whole without subjecting yourself to unnecessary volatility.
Always investigate the expense ratios of any fund you’re thinking of putting your money into. It’s tempting to believe that you’ll be entrusting your money to a financial wizard who will create positive returns out of all proportion to the miniscule-seeming management fees, but research suggests that there are few, if any, fund managers who can justify such premiums.
Also, avoid moving your money around too often because transaction costs will eat away at any profits you accumulate. Unless you have compelling reasons for buying and selling, it’s probably best to pick a solid fund with low fees and then leave your money there for a good, long while.
Keep Your Financial House in Order
Investing is just one component of your overall financial picture. It makes little sense to focus your energies on the stock market if another part of your finances threatens to consume any gains you realize. This is especially true if you’re carrying high-interest debt, like credit card balances. In almost every case, the interest charged by your card issuer will be much higher than the typical returns possible in the stock market. Determine your debt-to-income ratio and use this as a guide going forward for your investment activities. If habitual overspending makes it tough for you to discharge your debts, then you may have to alter your spending habits to get your finances back under control.
Include Other Investments
A well-balanced portfolio gives you durability to weather unforeseen contingencies. This is because the conditions that lead to declines in the value of stocks are the same circumstances that cause other products to perform well. An aggressive asset mix might see you put 60 percent of your capital into stocks while a more restrained approach is to only weight stocks at 40 percent.
You can devote the rest of your free cash to intermediate bond funds, money market accounts, your 401k or other retirement strategy, and other vehicles that offer some protection in the event that your stock market plans don’t pan out the way you’d like.
Expect Market Declines
Jittery investors stay apprised of short-term developments and then react in thoroughly predictable, yet inappropriate, ways. It’s far better to maintain within yourself a sense of calm and to always consider the long view when contemplating exiting any position. Those who have sold after big market downturns very often have cause to regret their hastiness because they, in many cases, find themselves buying high and selling low: the exact opposite of what they should be doing. Occasional losses are inevitable; learn to endure through them rather than making panicky decisions.
Put Some Money Aside Conservatively
No matter how bullish you are on the possibility of massive gains in stocks, it’s prudent to deploy some of your assets in a more conservative manner. This is especially true if you expect to have to spend your money within five years or less; such a restrictive time window doesn’t really allow stocks to ride out the highs and lows of the market.
CDs, money market accounts and bond mutual funds are all sensible alternatives for investing the money that you intent to use as income pretty soon. Look into the yields available within the timeframe you have to work with to select the best opportunities for you personally.
Rather than rushing headlong into a financial arena that you don’t completely understand, follow the simple tips above to maximize your chances of success with stocks. Resist the urge to constantly meddle and tinker with your investment portfolio, and instead let time and the free market do their jobs in returning to you more than you started with.
Maricel Tabalba is a freelance contributor for Credit.com who is interested in writing about personal finance advice for Millennials and college students. She earned her Bachelor of Arts in English with a minor in Communication from the University of Illinois at Chicago.