Buying stock in a company is more than opening a brokerage account and randomly picking a stock or buying a stock because of a hot tip from your cousin’s brother-in-law who’s an accountant. First of all, stocks should only be purchased once an individual investor understands the basics of investing and has prepared themselves for possible loss. There is a significant amount of work prior to purchasing stock, or any other investment vehicle, and a smart investor is a prepared investor.
Paper trading, which is trading a small group of stocks for a period of months in a simulated account, is one way an investor can get their feet wet before buying a stock. Understanding the concepts of basic investing, technical analysis, value investing, dollar cost averaging, momentum, moving averages and stop loss orders are part of basic financial education. It is very similar to buying a car; do your homework before putting money down.
What You Know
One primary tenet of purchasing stock is only buy what you know. Many investors, especially small investors during times of investment bubbles, purchase shares in companies they know little or nothing about. Having experience in a particular industry will make you well-suited to analyze market trends and the strength of an individual company and invest in it if appropriate.
If you’re unfamiliar with an industry or organization be sure to thoroughly conduct in-depth research to understand what you’re buying. No one randomly walks up to a realtor and gives them $250,000 for a home they know nothing about and no one walks up to a stranger and marries them so why do it when buying stock in a company.
What You Believe
Buying a stock you believe in is called socially responsible investing and it means you only support organizations which reflect your values. Not all investors do this and some only look at the technical aspects and projected growth rates of a company when making investment decisions. But there are thousands of companies you can purchase stock in and to narrow the list many investors by stock in companies they believe benefit society as a whole.
It is common for many individual and institutional investors to avoid purchasing stock in companies that manufacture firearms, alcohol and cigarettes. There are number of companies and mutual funds which support directly or indirectly the ideas of advancing human rights, saving the environment and increasing the standard of living of those in the world. Companies with a strong belief system and social activism ethos are often just as responsible to their shareholders.
What You Need
Investing without a goal will inevitably lead to less focused investment strategies yielding poorer returns. There are many different types of stock from aggressive growth and blue-chip to income earning and penny stocks. What type of stock you buy will depend on whether or not you’re seeking stable dividend income in your retirement years or exponential growth of your investment when you’re young. It’s counterproductive to do the opposite because a retiree can’t afford the risk of losing their nest egg and a young person could lose decades of above-average returns. Many investors however don’t know what they need and in these cases it makes sense to speak with a certified financial planner or other investment professional. They can codify your investing goals into a successful strategy picking stocks appropriate for your portfolio.
What Not To Buy
Being uneducated and uninformed is guaranteed to lead to significant investment losses for the ill-prepared. Following the herd or investing in bubbles is a surefire way to lose decades worth of investment gains. Both the Dot-com bubble and housing bubble made victims of many small individual investors who wanted to jump on the bandwagon but wound up with substantial loses when the more sophisticated and institutional investors bailed right before these collapses.
If you stick with the basics it will help prevent you from chasing returns in investments you shouldn’t be buying in the first place. Day traders and brokers who push penny stocks will try to convince inexperienced investors that it’s easy to get rich and it’s just as safe as more traditional investments. Of course this is incorrect and they’re just snake oil salesman looking to victimize small investors and make a quick buck. If you stay with investing fundamentals you will protect yourself and your investment portfolio from financial ruin.