As April comes to a close, so does our series for Financial Literacy Month. Over the past two weeks, we've shared 10 essential money lessons to help shape up your finances and portfolio. To recap a few, you've learned how to save some extra money, visited a place to learn more about different companies, and gotten some clues on what type of investor you might be.
So now what? With the S&P 500 having risen 29% off its low in March, is now the time to get in? How do you go about it? And how fast should you move? Our 10 essential money lessons have readied you to dive into investing, and this bonus article will help you do just that.
How can I invest?
If you're brand new to investing -- and at some point, we all are -- that whole world of Wall Street is pretty intimidating. Terms like enterprise value, return on equity, even P/E, are extremely confusing, often turning potential investors away. And we want it that way!
No, just kidding. Actually, like any field of activity, investing has its own special vocabulary that requires some exposure to it, and practice with it, in order to become familiar. If you're a car buff who likes working on your Ford (NYSE: F ) Mustang convertible, did you know everything about replacing piston rings when you started? (And what does a piston ring do, anyway?) I bet not, and it's the same principle at work here. Eventually, you learned about piston rings, or how to cook (what's the difference between beat and fold?), or play poker (five-card draw? Texas hold-'em?). You learned that the best way to learn is by doing.
So find yourself a discount broker (the ones who actually buy or sell the stocks on your behalf, following your directions), open an account (visit their website, or give them a call to find out how), and buy a few shares of your first stock (after some due diligence, of course).
You might want to start by thinking of companies and products that you're familiar with, like Coca-Cola (NYSE: KO ) or Wal-Mart Stores (NYSE: WMT ) . It's much easier to understand their business models. Or you could start with a company that serves one of your interests. If you're into cooking and food, consider a restaurant company like Darden Restaurants (NYSE: DRI ) , operator of Red Lobster. Or perhaps culinary equipment company Williams-Sonoma would be to your taste.
But don't expect to get wealthy overnight. It takes time for companies to grow, and for your investment to grow with them. Plus, bad things can happen --the value of your investment can drop, as has definitely happened during this recession. So only use money you've saved and don't need for at least the next five years. Over that time period, short-term movements tend to be dampened out, letting the long-term success of companies shine through. Success is not guaranteed, but it's more likely to happen over a longer time frame.
How diversified should I be?
If you're at least passingly familiar with investing at all, you've probably come across the term "diversification." That simply means, "Don't put all your eggs in one basket." If something bad happens to one company you've bought into, you should also have money invested elsewhere, so that you aren't wiped out from that one event.
One easy way to get diversification is to buy a broad-market index fund, such as Vanguard's S&P 500 index fund (VFINX). That gives you a portion of the 500 companies making up the S&P 500 stock market index, including biggies like Johnson & Johnson (NYSE: JNJ ) and not-so-biggies like GameStop (NYSE: GME ) . Then, you can add shares of individual companies in which you are particularly interested in, to provide an extra boost. This strategy is sometimes called "index plus a few," and it's a great way to start investing.
How fast should I buy stocks?
You may be concerned that if you put all your money into the stock market today, it will drop tomorrow. But if you let that fear rule you, you'll never start investing. Instead, try the following approach.
First, if you can, determine what your "full" position size is in any given company -- that is, how much you want to invest in total. Say you decided to invest $1,000 into Amazon.com (Nasdaq: AMZN ) in early January at about $57 per share, because you think that on-line ordering will become even more a part of life than it is today, and you also happen to be crazy about the Kindle. Begin with one-third or one-half of that. If the price drops, as it did later that month to the $50 range, fine, go ahead and buy another third. If the price rises, as it did at the end of January, now you've got a stake and could get some more on the way up, too. We call this "investing in thirds" and we like it because it imposes some discipline on the process.
Second, invest your money no more quickly than about twice as fast as it would take you to replenish it. So, if you have saved $5,000 and can add to that at about $500 a month, don't put more than about $1,000 per month into stocks. That would take about five months, by which time, you'd have another $2,500 for a couple more months, and so on. By doing this, you again avoid the risk of going "all in" just at the market's peak or before a major downdraft. Plus, it slows you down, and decreases the likelihood that your emotions will rule your decisions -- a pitfall that can be harmful to your financial health.
Final thoughts
So there you have it -- three steps to help you start investing today. To recap:
- Start with a company you're familiar with, or have an interest in.
- Use the index-plus-a-few strategy.
- Invest in thirds, and spread your purchases over time.
By following these, whether you're a new investor or one who's been in the trenches for a while, you'll be well on your way to that golden retirement.
Thank you for following us along this path toward financial freedom. And if you missed any of our other articles on financial literacy, check out our full list.
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