Once, during a friends and family get together (of course, pre COVID times), I started an engaging conversation with a 21 year old who had just graduated and was exploring his opportunities in the world. Very soon the topic moved into stock investing and he started asking questions about investment strategies. My first response was to tell him that I was, no way, in a position to advice him about investing given I knew very little about his goals and growth potential. Nevertheless, he wanted to know how I started doing it. After a few days I met him again and he had more questions and that led to me thinking about writing this blog post.
Here are few of my thoughts and my approach in investing which could help a person starting in the wide world of investing.
Disclaimer: Apart from the links where I may be compensated when clicked, I am not a financial advisor nor qualified to provide professional advice in investing.
My foray into investing (not including my 401K, which I will explain in another post) started only after I had gotten rid of my $36k debt, build up $50k emergency fund and had more to spare in my savings account.
To begin with, I had to come up with my goals before I even started with a strategy. My goals were simple enough and I would imagine the same for about 75% of families. This again is an estimation without any analysis or proven data. My goals were
- Emergency funds to tap into in the case of layoff at work, unexpected health expenses or any other emergencies,
- Pay off my large loans such as home mortgage, automobiles and others (in my case, it was a solar panel installation).
- Retirement funds (obviously!) for our past 66 years of age
- My kids college costs which we (my wife and I) wanted to fund 100%
Pretty simple and clear as mud, right?
For a 21 year old, I’d imagine item 4 would not apply immediately but could come in another 15-20 years or so.
Once I had achieved my initial goals, I started working on my investing strategy.
Initially it was all confusing to me and my first step was to break down stocks investing into different buckets. And, so came up with the list. Here is the breakdown of each bucket with my order of preference.
Mutual Funds or Exchange Traded Funds
For the risk averse or anyone who has not traded before, this would be easiest vehicle to start with. Mutual funds or ETF’s function in a similar way for a beginner. They index a bunch of publicly traded company and the price of the fund (or stock) fluctuates based on how these company’s stock price perform. As an example, VTSAX is a Vanguard Total Stock Market Index which indexes pretty much every publicly traded company and adjusts itself based how the market is performing.
Mutual funds investing is considered passive investing as these are for the long haul (15 – 20 years). They typically have very low fees and the dividend that you earn gets re-invested, until you decide to start taking it out.
As a beginner my first mutual fund was the Vanguard VTSAX, since I didn’t much about other funds or how to evaluate them. Over the years, I learnt to understand performance looking at their Morning Star ratings and performance over a period of time.
Apart from Vanguard, there are other companies that offer low cost (or no load) mutual funds. A popular one being Fidelity. Some of them offer dividends which can be invested again and some that do not. You have the options to buy mutual funds or ETFs from Vanguard or Fidelity directly or through one of your preferred brokers such as e-trade, Ally Invest, etc.
If you are looking for some quick wins (and possibly loses at the same time), you can pick individual stocks offered by publicly traded companies. As always these present higher risks but at the same time offer better rewards.
There are many factors that influence stock picking. I made the following rules to myself when picking stocks.
- Invest only in companies where I “somewhat” understood the business. As an example, I bought Wells Fargo, Merck, Tesla, Microsoft as I knew the type of business they were in. This strategy helped narrow down the list.
- Buy stocks from companies that I interact frequently in my life. I bank at Wells Fargo and drive a Tesla so they qualified in the list.
- Invest in ethical companies. I checked, if the companies had any history of fraud. Eventually, Wells Fargo came off the list (unfortunately).
- Companies that paid a dividend.
- Performance over the last 5 years.
You may be surprised that I was not looking at price/earnings ratio in picking stocks. The reason being, at the time I did not completely understand it then and I wanted something more personal rather than just making money. Having said that, I will never discourage anyone looking at them for stock picking. On the same terms, evaluating the CEO record, etc.
My next step was to pick a platform. I had initially started with Scottrade (which is now part of Ameritrade) but when easier platforms like Robinhood sprung up with zero dollar trading fees, I switched to them. I also kept my stock bucket to less than 5-10% of my total investments.
I am going to stop here as these were pretty much my sustained plans to this date, however, I want to go over few other avenues that I strode along. Not all of them worked in my plan, but it might in other cases.
This is now kicking your investing to high gear. Options trading is basically a contract with a bearer to either buy or sell but under no obligation to do so within the contract period. In simple terms, you get into a contract by buying options for a period of 90 days. If the stock price goes up in the 90 days, you will be able to buy the stock at the price it was when you engaged the contract (or bought the contract). You could then immediately sell them and make a profit. On the contrary, if the price went down, you are not obligated to buy the stock and you let the options expire. In such case, you lose the money you put towards the options purchase.
I started on it but quickly got out of it as 1) I was not picking options correctly which ended up with me losing money and 2) I was getting to engrossed with it and taking up all my time.
My idea was to have a relaxing investment strategy and leave all the hassles of daily work to day traders.
Annuities is another investment vehicle where you would put in a lumpsum amount (or incrementally) into a fund and expect it to grow. At the end of the term you will be paid a sum monthly, as long as the funds last. Annuities are common with pension plans.
I decided against annuities as I did not want to tie up a large sum of money (in my case) for a long period to get the benefits. Secondly, Annuities are very complex systems with very high fees. These fees are not visible to a common person and I felt I was being duped.
Whole Life Insurance
I was once approached by an individual selling whole life insurance. He started with telling me how I could make money and at the same time have a life insurance that could go to my family in case I passed away during the insured period. Intrigued, I listened to him but very soon realized that it was not for me.
The way the system works is that, every month you would put in a significant amount of money depending on the insurance level needed. In my case, I was eligible for a $500,000 life insurance. Using this number, I would have to put in approximately $900 per month for 30 years. If I passed away during this period my family would get the $500,000 and some extra money depending on how much I have paid.
Doing a quick math, it would take me 15 years for me to breakeven i.e. for the dollar amount to match the money I am putting in every month to the balance I would have in the account, it would take me 15 years. Also, I would not have the option to withdraw the money early without any penalty.
It was a simple decision for me to stay away from this plan.
Summarizing, there are many different platforms that you could utilize. I have not touched on many of them such as peer-to-peer lending (see my review of Lending Club review), REIT, Forex, etc but I suggest start small and expand as you get comfortable.