So you’ve decided that your craft isn’t exciting enough on its own and you want to buy individual stocks? Today I’ll help you with that. While we don’t give investment advice on this blog, I can help you open up your account and learn a little bit about research. We’ll also cover some of the big mistakes new investors make so that you’ll be well on your way to buying your first shares.
Choosing an Account
To buy a stock, you’ll need an account to hold your stocks, called “shares.” Just like there are many definitions of “great art”, there are many “best” ways to open up an account for your shares. What makes a good holding tank? It depends on your goals.
If You’re Going To Buy One Share And Hold It
If your goal is to ONLY buy a single company, I recommend looking at what are called “dividend reinvestment programs,” or DRIPs for short. Why? Many stocks produce what’s called a dividend, which is a payment to investors….sort of a “thank you” for investing in the company. Dividends are usually no more than 1-2% of the total value of the stock, so for the average investor, this is a really small sum.
Unless you plan on spending your dividend, most shareholders like to reinvest them. Inside of most accounts, a fee is charged to invest in more shares. That’s where DRIPs come in handy. A DRIP program automatically reinvests your dividends without charging a fee.
There are some online accounts that allow you to reinvest dividends without a fee. Just perform a search of “free dividend reinvestment” brokerages. You’ll find quite a few!
If You’re Going To Buy Shares and Trade
You’ll want to focus on something called a “brokerage” account. These accounts allow you to trade stocks. I mentioned earlier that you’ll pay fees. You need to decide if you’ll need help or not. If you do, you should visit a broker or financial advisor. However, you’ll generally pay higher fees if you have help.
You’ll find all kinds of advice about fees, but most people online tend to be fee-sensitive. I have a slightly different outlook. If you can go it alone, fine. However, it’s one thing to avoid fees and another altogether to mess up your financial picture because you wanted to save a few dollars. That doesn’t mean I’m recommending an advisor… it means I’m recommending that you look inward and decide what’s best for you first, THEN find the appropriate fee structure for the approach that meets your goals.
If you’re going to trade without an advisor, use one of the many reputable online brokerage firms. If you’re using an advisor, make sure and check their record on the FINRA BrokerCheck website to ensure you aren’t starting a relationship with an advisor who’s had more trouble than they’ve admitted.
While it may be tempting to start with your friend’s favorite stock or your neighbor’s “can’t lose” pick, you should never buy a stock based solely on a recommendation. In fact, many people shouldn’t buy an individual stock at all. If you’re thinking that’s the case for you… skip to the bottom of this post!
Much like an artist will begin by studying the basics, you’ll want to know the fundamentals of any company before you buy. Behind every good stock is an actual company, and you’ll want to know as much about how it works as possible before purchasing. This is called “fundamental analysis” by stock traders.
First, you should have a basic understanding of the company and how they compare to their counterparts. As an example, if you pull up General Motors on Yahoo! Finance (one of many free online sites that will help you analyze stocks). You can see… and shouldn’t be surprised by… the competitors of GM and how they stack up. You can see GM’s earnings next to those of Ford and Toyota. You can also see just how big each company is. You’ll see something called the “PE Ratio” for each company.
The PE ratio is the price of the company over its earnings. So, if a company has a price of 12 and earnings of 3, its PE ratio would be four… meaning that it would take four years of current earnings to justify the share price. I had a really hard time with this concept at first, so if you aren’t grasping it right away, don’t worry; you’ll get it in time. I’ll say this: once I knew that PE ratios were to be compared between companies in the same business and that a lower PE meant the stock was a safer bet, that was incredibly helpful.
Once you know what the company does and how it stacks up against its competitors, now it’s time to take a closer look at the price. Every stock has a price listed. That’s how much it’ll cost you to buy a single share of stock, without any charges from your brokerage firm or advisor. Some trades also have some small taxes added on… but that doesn’t usually add up to much money.
Many people new to the stock market think that a lower price means a cheaper stock. You may be surprised to know that price doesn’t mean much in terms of value. All the stock price represents is the cost of a share. If one stock costs $14 a share and they have a million shares available, that stock is far cheaper than a company with stock priced at $10 but with only 100 units available.
What we really want to know is “how does today’s price compare historically?” That’s one piece of what stock traders call “Technical analysis.” While fundamental analysis is based on the company’s product, management and competition, technical analysis is all about “how the stock’s doing.”
To look at how a stock’s performed, most traders look at a chart showing how it’s done over the last year, five years or ten years. One free site I like for charts is BigCharts.com, but there are many others, including at Yahoo!, CNNMoney and MSNMoney.
Just because a stock has performed well or poorly in the past doesn’t mean it’ll continue to perform well or poorly, so don’t try to guess where the chart is going to go in the future based on its past performance. However, when you look at the chart and also keep in mind the competition, the product and the PE ratio, you’ll have a much better idea of whether you should buy a stock than you would if you just had purchased it after your friend recommended it to you.
If You Don’t Want To Bother With All This Work!
Here’s a scary metric: most professional traders get beaten by the stock market overall. If pros can’t beat the market buying individual stocks, why should you try? That’s easy. Some people find stock trading fun, rewarding, and a good way to learn about how companies are innovating. With your craft, you know how important it can be to stay on top of trends, to always be learning better methods, and to challenge yourself. Following stocks, for some people, is a way to do this… and at the same time hopefully learn how to make money!
However, if you don’t want to buy individual stocks, don’t worry. Most people never will buy stocks because they don’t have the time, energy or inclination. Instead, you might want to focus on index mutual funds and exchange traded funds. These products trade a diversified collection of stocks, bonds or other investments, and you can follow along with someone else’s performance instead of having to do all the hard work yourself!