What to Know Before You Invest in Stocks

Photo (cc) by rednuht

If you want to retire rich, you only need to do three things. The first is to keep debt to an absolute minimum, because paying interest simply increases the cost of whatever you’re financing. The second thing you need to do is to live below your means: to always spend less than you make and set money aside.

Thousands of tips and suggestions to spend less and pay off debt appear on hundreds of websites, including this one, and in dozens of books, including my latest, Life or Debt 2010.

Less often discussed but just as important, however, is the third thing you’ll need to become financially independent: knowledge about investing. Because while cutting up your credit cards and skipping $4 lattes is smart, how you invest those savings can determine success or failure in reaching your goals.

Let’s say you’re determined to save extra money by reading stories like 28 Tasty Tips to Save on Food, 18 Tips to Dress for Less or 26 Ways to Save on Entertainment. And as a result of all this sage advice, you find yourself with an extra 10 bucks a day, or $300 a month. If you have any sense, the first thing you’ll do is use that new-found money to pay down debt. But what then? If the only thing you do is put your savings in 1% money market account, after 20 years you’ll compound your way to a balance of $80,000. Nice. But if you earn 10% instead of 1%, your nest egg will increase to about $228,000. Way nicer.

So learning to invest your spare money wisely, including the money you’re (hopefully) putting aside in your retirement plan, is nearly as important as learning to find it. And if you approach it properly, it’s really not that hard.

When it comes to investing, while it may seem there are dozens of options, there are really only two. You can either be a loaner or an owner. A loaner is someone who allows others to borrow their money in exchange for interest. An owner, on the other hand, invests in somebody else’s business with the hope that their ownership interest grows in value.

If you put money in the bank, or in any kind of bonds, you’re a loaner. You’re investing in debt. If you invest in the stock market or real estate you’re an owner. You’re investing in equity. Over decades, loaner investments like government bonds have paid a little less than the inflation rate: about 4%. Owner investments, like stocks, have paid a lot more, beating inflation by a few percentage points: about 8%. This is as it should be: after all, ownership investing carries additional risk. If it didn’t pay more, nobody would do it.

But that doesn’t mean owner investments are better than loaner. Both are necessary. Loans offer relative safety, depending, of course, upon who you lend your money to. And ownership investments offer the opportunity for growth, depending on whose business or what real estate you invest in. If you try to play it too safe and put all your money into super-safe loan investments, you’re practically guaranteed to lose to inflation over time. But if you put all your eggs in a risky ownership basket, you’re likely to lose both sleep and your savings. So you need both. The trick is how to determine how much of each, then to learn about both.

With that in mind, check out this recent story I shot on the floor of the New York Stock Exchange that describes some things beginning investors should consider. Then meet me on the other side for more.

To recap those tips:

  • Don’t ever put any money into stocks that you could possibly need within five years. The longer your time horizon, the lower your risk. This is also true of real estate investments.
  • Don’t put all your eggs in one basket. If you can’t afford to buy more than one stock, use a mutual fund or Exchange Traded Fund. That way you own a sliver of lots of different companies rather than just one or two. (I’ll be explaining those in more detail in future stories.)
  • Don’t invest in stocks all at once: invest small amounts monthly. That way, should the market fall, you’ll have money on the sidelines to buy at lower prices.
  • To decide how much to put in loaner investments (the bank) and how much to put in owner investments (stocks or real estate) here’s your rule of thumb: Subtract your age from 100 and that’s the percentage you might want to put in stocks. So if you’re 25 years old, you’d take 25 from 100 and put that amount, 75%, of your long-term savings into stocks. If you’re 75 years old, you’d only take that kind of risk with 25% of your savings.

Sound overly simplistic? Maybe, but as I turned on the news during the 2008-2009 market decline, the airwaves were full of retirees who were being forced back to work by the 50% thrashing their retirement funds had suffered at the hand of stocks: a sure sign they were over-invested. And for a little salt in the wound, many of these same people, unable to tolerate the risk of ownership investments, left the market just in time to miss a 65% one-year rally: one of the biggest bull market runs in history.

I spent 10 years as a stockbroker and have been investing in stocks and real estate for nearly 30. I know how to make money in both of these areas, but not because I’m a genius. I learned this stuff the hard way; by losing many thousands of dollars. In fact, I paid a lot more to learn proper investing than I did to attend college. But that’s not going to happen to you. You’re not going to be a sad story on the evening news. You’re going to use the above tools to make sure you don’t take too much risk, and in other stories I’m going to give you more specific information so you won’t make the same stupid and expensive mistakes I did.

Want to learn more about investing, and for free? Check back often and if you know someone who could use the advice, tell them to join us too.

Disclosure: The information you read here is always objective. However, we sometimes receive compensation when you click links within our stories.

Read Next
Eat This Food If You Want to Avoid Alzheimer’s Disease
Eat This Food If You Want to Avoid Alzheimer’s Disease

One type of food associated with the Mediterranean diet offers especially large benefits.

7 Things You Should Buy at Estate Sales
7 Things You Should Buy at Estate Sales

Here’s what an experienced estate sale shopper considers a great find.

5 Cheap and Easy Ways to Make Your Car Smell Delightful
5 Cheap and Easy Ways to Make Your Car Smell Delightful

These tips will leave your ride smelling delightful for next to nothing. Some options are also chemical-free.

What is the Cheapest Grocery Store?
What is the Cheapest Grocery Store?

Aldi, Kroger and Walmart: Which grocery store is the cheapest?

15 Ways Retirees Can Make Their Savings Last Longer
15 Ways Retirees Can Make Their Savings Last Longer

Study these strategies to make your golden years gleam.

View this page without ads

Help us produce more money-saving articles and videos by subscribing to a membership.

Get Started

Most Popular
7 Kirkland Signature Items to Avoid at Costco
7 Kirkland Signature Items to Avoid at Costco

Even if it seems you save a bundle buying Costco’s Kirkland Signature brand products, they may not be the bargain they appear to be.

Am I Eligible for My Mother’s Social Security Benefit?
Am I Eligible for My Mother’s Social Security Benefit?

Can an adult daughter tap into her late mother’s benefit?

9 Things You’ll Never See at Costco Again
9 Things You’ll Never See at Costco Again

The warehouse store offers an enormous selection, but these products aren’t coming back.

3 Ways to Get Microsoft Office for Free
3 Ways to Get Microsoft Office for Free

With a little ingenuity, you can cut Office costs to zero.

This Surprise Factor Can Raise Your Risk of Dementia
This Surprise Factor Can Raise Your Risk of Dementia

Nearly half of U.S. residents may face this threat.

Organize Your Home With These 10 Thrift Store Finds
Organize Your Home With These 10 Thrift Store Finds

Resolve to be clutter-free in 2021 with these secondhand purchases.

This Gas Station Scam Is Victimizing More Drivers
This Gas Station Scam Is Victimizing More Drivers

For the second straight year, a growing number of Americans believe they’ve fallen prey to this scam.

11 Laws You Could Be Breaking Without Knowing It
11 Laws You Could Be Breaking Without Knowing It

Seriously? Fibbing about the weather is a crime? This and other little-known legal traps await the unwary.

11 Generic Products You Should Buy at Costco
11 Generic Products You Should Buy at Costco

Not all generics are worthwhile, but these are among the best from Costco’s Kirkland Signature brand.

These Are the 3 Best Used Cars You Can Buy
These Are the 3 Best Used Cars You Can Buy

These vehicles boast reliability, safety and long-lasting value.

13 Things Seniors Can Get for Free — or Almost Free
13 Things Seniors Can Get for Free — or Almost Free

There are many ways to get cheap or free services and goods after reaching a certain age.

6 Legal Documents Retirees Need — but Don’t Have
6 Legal Documents Retirees Need — but Don’t Have

Few retirees have all of these documents that are crucial to their golden years — especially during a pandemic.

8 Tips for Retiring Comfortably on Social Security Alone
8 Tips for Retiring Comfortably on Social Security Alone

It’s never too early to start learning how to live well while living on less.

Internet Providers Can’t Charge You for This Anymore
Internet Providers Can’t Charge You for This Anymore

Starting this month, your ISP no longer can bill you for this fee.

15 Painless Ways You Can Cut Costs in 2021
15 Painless Ways You Can Cut Costs in 2021

Follow these tips to save, so you’ll have money for things that really matter.

9 Small Expenses That Are Bleeding Your Budget Dry
9 Small Expenses That Are Bleeding Your Budget Dry

Keep more of future paychecks by eliminating these budget-busting unnecessary expenses.

The 4 Best Things to Buy in January — and 4 to Avoid
The 4 Best Things to Buy in January — and 4 to Avoid

As a new year dawns, deals abound for some types of products. In other cases, it pays to wait.

11 Huge Retirement Costs That Are Often Overlooked
11 Huge Retirement Costs That Are Often Overlooked

Does your retirement budget account for all of these costs?

Is This Treatable Condition Causing Your High Blood Pressure?
Is This Treatable Condition Causing Your High Blood Pressure?

Researchers say too many doctors are overlooking this potential source of hypertension.

View More Articles

View this page without ads

Help us produce more money-saving articles and videos by subscribing to a membership.

Get Started

Add a Comment

Our Policy: We welcome relevant and respectful comments in order to foster healthy and informative discussions. All other comments may be removed. Comments with links are automatically held for moderation.