Researchers have documented that while many of us individual investors tend to be overly optimistic about the investments we pick, most of us aren't fully confident about our investing. That's because few of us learned much about investing in school, so we're intimidated by it. We tend to assume that we can't be good at investing, and that leads us to make mistakes, such as putting off investing, not investing effectively, or just handing over our money to costly advisors who may not be too good and who may have some conflicts of interest.
But investing successfully isn't rocket science. You can do it. Don't believe me? Well, keep reading.
The school of mosquitofish
Enter the lowly mosquitofish. It's here to teach us a lesson -- because, amazingly enough, researchers in Italy have shown that mosquitofish can learn to discriminate between two and three objects.
Now, this is just a fish, with a fairly tiny brain. We humans have brains that are considerably bigger, brains that helped us put a man on the moon 40 years ago. Brains that enable us to drive buses, fill out tax returns, complete crossword puzzles, and learn foreign languages.
So we should be able to master some basic investing concepts. Here are just a few.
The market, in one fell swoop
First off, there are broad-market index funds. If you buy into one, such as the Vanguard S&P 500 Index (VFINX) fund, you'll instantly be invested in 500 of America's biggest companies, such as ConAgra (NYSE: CAG), Abercrombie & Fitch (NYSE: ANF), and Honeywell (NYSE: HON).
Better still, the S&P 500 has outperformed the majority of managed mutual funds over the long haul, so it's not just a lazy choice. If you're happy matching the market, then index funds mean you really don't need much time or skill to invest successfully.
Cherry-picking
Of course, you may want to try and do even better than the S&P 500. If so, you might want to invest in some individual stocks. Choosing which ones are your best ideas is easier said than done, of course, but the Fool offers tools to help you.
Here's a quick look at some basic characteristics you'll want to know about when you look for stocks to buy:
- A company's market capitalization is simply its current value in the stock market. You take all its shares outstanding and multiply them by the current share price. Check out General Electric (NYSE: GE), for example. According to its "Stats" page on Motley Fool CAPS, it has 10.56 billion shares outstanding and a recent price of $12.00. That works out to a market cap of $127 billion, making it a very "large-cap" stock.
- A company's dividend yield is simply the total amount it pays out in dividends each year (usually in quarterly installments) divided by its current stock price. IBM (NYSE: IBM), for example, was recently paying out $2 per share, with a share price around $102. Divide $2 by $102 and you'll get a yield of 0.0196, or around 2%. Voila! It's that easy. Of course, as you keep learning, you'll find there are more things worth knowing about dividend stocks and how they can turbocharge your portfolio.
- The price-to-earnings ratio (P/E) is a stock's current price divided by its earnings per share (EPS). Lower P/Es are generally more attractive than higher ones, but they can also be misleading. Beware of trailing P/Es, especially in today's environment where earnings have fallen broadly. For instance, steelmaker ArcelorMittal (NYSE: MT) has a trailing P/E of 3.5, but its P/E based on next year's earnings estimates is a much higher 7.7. But that works the other way, too: Apple (Nasdaq: AAPL) trades at a trailing P/E of over 23, but higher future estimates reduce its forward P/E to around 20. It's best to compare a company's P/E only with those of its peers and with its own historical P/E range.
See? You can figure all this out, if you really want to.
Put funds in funds
If stocks are too intimidating, you can turn to mutual funds. Look for long-tenured managers with track records and philosophies that you admire. Seek out funds with low fees and low turnover.
Funds make it easy to invest in all kinds of holdings – small caps, large caps, foreign companies, dividend-paying companies, health-care companies … the list goes on. Learn why some people call them the best investments ever, and know that you needn't be a genius to invest in them successfully.
So take inspiration from the humble mosquitofish. If it can learn to count, you can surely learn how to make the most of your money. If you're eager for more right now, check out our 10 Essential Money Lessons.
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