As with so many things in life, it's important to be ready to invest before you do so. Jumping into the stock market without thinking about it is not a plan for success, just like sharply curbing your eating without learning more about weight-loss methods isn't the best way to go about trying to lose weight.
Losing weight and getting better with money are two popular New Year's resolutions. You'll have to decide for yourself if you're ready to try to lose weight, but here's a look at five signs that you're ready to invest.
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1. You have a long-term focus
It's easy to say you understand that it's important to invest for the long term, but it's not always easy to walk the walk. I've blundered along these lines, myself -- for example, buying into a company that seems poised for great things, but then selling out of it after a year or so of underwhelming performance or even sooner if some other exciting company caught my eye.
I'm a much more patient (and more successful) investor now, but if I were to look at many stocks I sold years ago, I'd see how much in growth and profits I missed out on. For best results with long-term investing, aim to hold on to stocks you buy for at least five years, if not 10 or 20, as long as the company remains healthy and growing.
2. You know what to expect
Before you jump into the stock market, be sure you have proper expectations. For example, expect volatility. The stock market has gone up, up, up over more than 200 years, but it hasn't done so in a straight line. There will always be corrections, crashes and economic recessions. They are often, but not always, short-lived, so you need to be prepared to wait years for a recovery.
Remember that the best stocks have gone through downturns and periods that disillusion investors...but then have gone on to reach new highs. Patience tends to be rewarded. Acting on your own fear and greed, not so much.
Also expect to have to keep up with individual stocks you own, following them in the news and reviewing their quarterly and annual earnings reports. It takes time, but failing to do so can leave you caught by surprise when a company that had been struggling eventually implodes, with little hope of recovery.
3. You know to look for both price and quality
When you look for great stocks in which to invest, remember that there are two important things to look for: a great company and a good or great stock price. If you invest in great companies at overvalued prices, the stock may head south and stay down for a while. Much of the near-term growth may already be baked into the stock price, leaving little room for further growth. Investing in bargain-priced stocks of not-so-great companies is also dangerous since it's the strength of the company that will drive the stock over the long term.
Ideally, you'll want to learn characteristics of great companies and a few ways to value stocks.
4. You know your way around financial statements
If you're going to invest in individual stocks, you'll also need to learn how to make sense of financial statements from companies, including the balance sheet, income statement, and statement of cash flows. Pro tip: In the accounting world, there are often multiple names for various concepts. Sales, for example, may be called revenue, and the income statement may be called the statement of operations. You can learn what various accounting terms mean by using a search engine or check out The Motley Fool's introduction to financial statements or perhaps even take an introductory accounting course.
5. You know you can opt for index funds
If you're thinking that you can't -- or don't want to -- do all the things talked about above, know that you can simply stick with low-fee, broad-market index funds and build great wealth over the long term with them.
Index funds are easy-to-invest-in, effective investments that track a particular index, such as the S&P 500, and hold the same stocks, delivering roughly the same return as the index (less fees). Index funds are no compromise; many index fund investors outperform many growth-stock investors.
So go ahead and start thinking about investing in the stock market, because most of us need to be amassing a sizable nest egg for retirement and stocks can help us do that. Just approach it with your eyes open, and only when you're ready. If you opt for index funds, you can be ready in short order, as index fund investing doesn't require much learning or keeping up with investments.
Know, too, that you can always ease into stocks by investing a little money at a time. You don't need much to start, as many good brokerages these days charge $0 per trade. So you could just deposit, say, $100 or $500 into a brokerage or retirement account to start and then deploy those dollars.
