Stock Market Tips That Every Beginning Investor Should Know

stock market tipsIt’s easy to assume that since Google is such a well-known and successful company, purchasing its stock will guarantee yourself a profit.   Unfortunately, succeeding in the stock market doesn’t tend to work that way.  It involves understanding the stock market, researching companies, knowledge of the economy, and a lot of patience.  But almost anyone who has some money and takes risk can become a successful investor.  If you are still in the beginning stages of investing or you are interested in doing so, follow these basic stock market tips and hopefully you will come out of Wall Street as a winner.

Diversify Your Portfolio

Most investors will agree that having a balanced and diversified portfolio is your best bet to succeeding in the stock market.  That basically means that you have a good mix of investments; stocks, bonds, real estate funds, cash and international securities.  The key is to focus more on variety than on quantity.  Just because you have a lot of investments, doesn’t mean you are diversified.  As far as stocks are concerned, you should include U.S. stocks from small, mid and large companies.  You should also own U.S. stocks, as well as well as international and emerging market companies.  Lastly, your stocks should be divided between value and growth companies.

The amount you invest into each stock is dependent on you.  The rule of thumb is that the closer you are to retirement, the less risk you want to take.  Subtract your current age from 100, and put the resulting percentage in stocks.  So if you are 40 years old, you should put 60% of your assets in stocks, and 40% in bonds.  And for international securities, invest 10% to 20% of the stock portion depending on your age (the younger you are, the more you should invest).  As far as real estate investments are concerned,  you can add 5% from either your bond or stock portion.  These hybrid investments tend to be volatile, so a lot of people stay away from them.  They can actually help stabilize returns though because they move at such a different pace than other investments.

As you can notice, the purpose of diversification is not to necessarily boost performance, but to protect you from investment risk.  It can help even out price fluctuations in the stock market during the ups and downs, but it cannot guarantee anything against losses.  By combining assets that don’t move in unison (stocks and bonds for example), it’s possible to generate a bigger return without increasing your risk.  When one security from one sector performs poorly, another one may perform well.  In the long run, diversification is supposed to incur less risk while achieving higher expected returns in the stock market.

A diversified group of 20 stocks is said to eliminate 85% of a specific company’s risk from your portfolio, while having 50 stocks will reduce it by 93%.  If you had invested all of your assets in just one company, such as Enron for example, you would of lost a ton of money when they crashed.  But if you had spread it out in 25 different stocks including Enron, you probably wouldn’t have lost much, if anything.

Mutual Fund and Exchange-Traded Fund (ETF)

Many individual investors, like myself, have a limited amount of funds and therefore cannot buy enough stocks and other assets to diversify accordingly.  Luckily, mutual funds and exchange-traded funds (ETFs) are in existence.  Not only is it easy to diversify, but both of these funds have very low fees and require hardly any effort to monitor and re-balance.  Mutual funds and ETFs serve similar purposes, but they’re also different in certain ways.

Mutual funds have existed since the late 19th century, and are regulated by the SEC.  They usually contain stocks, bonds, short-term money market instruments or different types of assets.  A manager of the fund will write the guidelines he or she plans to follow, as well as its past performance and other data about the fund.

ETFs difer from mutual funds in that they track an index.  Indexes represent entire markets, such as the S&P 500, but are not managed by investment professionals in a dynamic way.  They are broken down and sold as shares.  ETFs tend to have lower operating costs and tax efficiency, but a disadvantage they have is they do not have the benefit of active management.  When it comes to figuring out which one is better for you, it really comes down to which one fits your needs best.  Most beginners and non-frequent traders will side with ETFs, because they are easier to manage and are far more tax-efficient.  Plus since they trade like stocks, you know exactly the price at which your sell order was executed

Know When To Sell

Some investors are guilty of panic selling, and that can cost them a lot of money.  Panic selling is when you see your stock going down in value, and you jump to conclusions that you need to sell right away before it goes any lower.  In some cases it can pay off, but usually it’s not the best route.  Investing is supposed to be thought of as a long-term commitment, to both your  future financial goals and your well-being.  If you want to know when a good time is to sell your stocks, understand the tax implications of stock sales and the potential reasons to sell.

Think rationally when you are debating whether to sell your stock or not.  And remember that you don’t have to sell all of your shares at once.  Investors usually make the best decision when they take some time to think about it, rather than acting hastily.  Ask yourself why you bought the stock in the first place, and where is the company headed now?   This is probably the toughest decision you will have to make as an investor, so give yourself some time and space to make a decision

Rebalance Your Portfolio If Necessary

Think of portfolio rebalancing like a tune-up for your car.  Make sure everything is working the way you want it to, and minimize risk.  Rebalancing is when you buy and sell portions of your investments in order to set the weight of each asset class back to its original state.  Or you might decide you want to be more aggressive with your investments and invest more in stocks instead of bonds.  Rebalancing about once a year is sufficient, although some people tend to do so every other year.

To gain the most optimal results from rebalancing, you need to focus on transaction costs, personal preferences and tax considerations.  Follow these three steps to help guide you in rebalancing your portfolio.

Record – Once you’ve decided on your investment strategy and purchased the appropiate securities, keep track of the total costs within each security, as well as the total cost of your portfolio.  You will need these numbers down the road because you will be comparing them to the future costs of each security.

Compare – When that time comes in the near future, review the current value of your portfolio and of each asset you currently have.  Divide the current value of each asset class by the total current portfolio value to determine the weightings of each fund.  If there are no significant changes, it may be best to sit tight and continue with what you have.  Otherwise, it may be time for a change

Adjust – If you find a significant difference in your weightings, take the current total value of your portfolio and multiply it by each of the weightings originally assigned to each asset class.  The numbers you calculate will be the amounts that should be invested in each asset class in order to sustain your original distribution.  You will probably want to sell securities from asset classes whose weights are a lot higher and purchase other securities in asset classes whose weights have lowered.  With that said, always consider the tax implications of rebalancing your portfolio.  Sometimes it might be better to not contribute new funds to the asset class that is overweighed while continuing to contribute to other asset classes that are underweighted.

Trade Like The Pros

One thing you can never have too much of when it comes to investing is advice.  Learn how to trade like the pros to gain more insight and knowledge about what it takes to become successful.

One of the most successful traders in the world,  self-made billionaire Warren Buffet, said there are three investing mistakes that every investor should avoid.  They are 1) Trying to time the market.  2) Trying to mimic high-frequency traders  3)  Paying too much in fees and expenses.