While those of us who’ve been investing for a while may find this week’s reader question a bit obvious, it’s one of the more popular questions we get. It’s about how to go about getting started with investing.
Where or whom do I talk to to open an S&P passive no-load index fund? Do I go to a bank or brokerage house or to the fund directly? I don’t have much money to start with but I need to start.
Thanks in advance. — Stephen
Before we get to Stephen’s question, here’s a quick video I shot at the New York Stock Exchange about things beginning investors should know.
Now let’s answer Stephen’s question.
What’s a mutual fund?
In case you’re not familiar with a mutual fund, let’s start by understanding exactly what that means.
A mutual fund is simply a bunch of investors who pool their money and hand it over to a manager. That professional, in exchange for a management fee, oversees a diversified basket of investments and takes care of the paperwork.
Most mutual funds fall into one of three categories: a stock fund, a bond fund or a fund that holds both stocks and bonds, called a balanced fund.
The chief advantage of a mutual fund is that it allows an investor to own a small slice of a big portfolio. Diversifying with a bunch of stocks or bonds is much safer than putting all your money into one or two stocks or bonds.
While mutual funds are most commonly made up of stocks, bonds or a mix of the two, there’s a huge variety within those broad categories. You can find stock and bond funds that are extremely low risk, super-high risk and everything in between.
The mutual fund that Stephen is asking about is a fund that tracks the S&P 500: a stock index made up of 500 of the largest and most iconic American companies. It’s a popular option because it’s essentially an investment in the American economy. If you think the American economy will be bigger years from now than it is today — a pretty good bet — it’s a solid long-term investment.
Where can I open a mutual fund account?
Answer: theoretically, almost anyplace that handles money or investments.
Many bank branches now have a resident investment adviser, and many credit unions do as well. Brokerage firms offer all manner of investments, including mutual funds. Online investment firms also make it easy, and you can often go directly to many mutual funds as well.
That being said, Stephen is aware of a potential problem with going to some of these purveyors of financial products — commissions. He asks where he can buy “no-load” funds, which translates to “no commissions.” This is important: You obviously don’t want to lose a chunk of your investment up front to commissions.
Practically all brokerage firms and many other institutions that offer in-person investment advice make money through commissions, so they won’t offer no-load funds. And that radically reduces the choices.
For Stephen, and for you, the best place to buy no-load mutual funds is directly from the fund, or through online discount brokerage firms.
How do you do it?
Opening an online account with a no-load fund is not much different from opening a bank account.
I personally use Vanguard for my investments, including mutual funds, so I’ll use them as an example.
According to Vanguard, it takes about 10 minutes to provide the information, which will include the type of account (IRA, individual, joint, etc.), your Social Security number, date of birth, email address, physical address, and employer name and address.
The next step will be to pick the investment you want. In Stephen’s case, he’ll select the Vanguard 500 Index Fund Investor Shares. That’s an example of the “S&P passive no-load index fund” he’s talking about. I’ve mentioned it many times, including in stories like “Here’s All You Need to Know About the Value of Wall Street Advice.”
Step 3 will be to fund the account. You can either send them a check, or set up a direct transfer from an existing checking or savings account.
That’s all there is to it. Other online firms may be slightly different from Vanguard, but the basics will be similar.
Meeting the minimum
As Stephen will find when he opens his new mutual fund account, there are minimums to be met. For example, the Vanguard 500 Index Fund has a minimum initial investment of $3,000.
Too rich for your blood? There are workarounds.
First, you could gradually save $3,000 in a regular savings account, then transfer it to your investment account and buy the fund. (As I mentioned above, most online brokerages allow you to link your bank account to your investment account and easily transfer money back and forth.)
You could also ask about systematic investing. That’s investing fixed amounts at regular intervals, such as monthly. Some firms waive their initial minimums for regular investors. For example, they might allow you to open an account with only $50, providing you agree to automatically continue investing in $50 increments at least monthly.
But don’t try that with Vanguard. I called them and was told the minimum to start most accounts is $3,000. (Vanguard Target Retirement Funds, which are funds made up of Vanguard index funds, are an exception, with a $1,000 minimum initial investment.)
Another option is to forgo traditional mutual funds and invest instead in exchange traded funds or ETFs. These funds trade on exchanges like shares of stock, and can be bought in increments as small as one share. Like stocks, there’s typically a commission to buy or sell, but some companies, including both Schwab and Vanguard, allow commission-free ETF trades.
Now for some general rules for beginning investors.
Rule No. 1: Long-term money only
When it comes to stocks, the longer your investment horizon, the lower the risk. Day trading is risky because nobody knows what’s going to happen on any given day. Investing over decades carries far less risk, because quality companies become more valuable over time, and so do their shares.
That’s why, if you invest in stocks, you should never use money that you’ll need within five years.
Rule No. 2: Moderation
Because the stock market is risky, it’s not the basket for all of your eggs. I suggest subtracting your age from 100, and putting no more than the resulting number as a percentage of your long-term savings into stocks. So if you’re 25, 100 minus 25 equals 75 percent in stocks. If you’re 75, you’d only use stocks for 25 percent of your savings.
But as I also said, that’s just a rule of thumb. If you’re nervous, you’ve invested too much.
Rule No. 3: Don’t buy individual stocks
Buying individual stocks is fine if you’re up for the additional risk and have the resources, but it’s not necessary or, for most people, advisable. You can do perfectly well with a mutual fund or ETF, while at the same time limiting your risk and reducing your hassle.
Rule No. 4: No trying to time the market
Try to time the market and you’ll likely find yourself on the sidelines when the market takes off — and overinvested when it crashes.
The best way to approach stocks is the one I mentioned above — systematic investing. All you have to do is invest fixed amounts, like $50, at regular intervals, such as monthly. This method works for a simple reason: It automatically buys more shares when they’re cheap, and fewer when they’re not.
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The questions I’m likeliest to answer are those that will interest other readers. In other words, don’t ask for super-specific advice that applies only to you. And if I don’t get to your question, promise not to hate me. I do my best, but I get a lot more questions than I have time to answer.
I founded Money Talks News in 1991. I’m a CPA, and have also earned licenses in stocks, commodities, options principal, mutual funds, life insurance, securities supervisor and real estate.
Got more money questions? Browse lots more Ask Stacy answers here.
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