The stock market is the first place most people think of when it comes to generating wealth. Everyone is looking for the next hot stock or the secret formula to get rich off the stock market.
I'll tell you the formula– and it's no secret. Anyone can build wealth in the stock market. It simply takes regular investments – and time.
The stock market is no magical ATM. You will hear stories of people getting lucky and you will hear even more about people going broke. There is a better way and its almost fool-proof. We'll cover the steps to start investing in stocks and a few simple strategies to generate wealth in the years to come. Generating wealth in the stock market is an important step towards financial independence.
Below are all the steps and strategies we recommend to get started investing in stocks and generating wealth. Every investor is different and there is no one right way to invest your money – there's only whats right for you. The information below is a compilation of our personal research and experience in generating wealth while limiting the risk that comes along with investing.
First – Set Your Expectations
You've heard the stories of a guy who picked up shares of GameStop (GME) before they shot up 1500% and made him an instant millionaire. This is an anomaly. It happens, but you cant plan on it. Maybe you find the next Amazon, Netflix, Tesla, or Apple and hit it big. Maybe you bet on the next Enron and loose it all.
If the thought of loosing your investment money is making you feel queasy – then ETFs and Index funds may be the best place for you. Investing in 500 or 1000 stocks is a much safer bet than trying to pick one. Traditionally, the S&P 500 (the 500 biggest stocks in the US) has returned an annual average of 11.88% since 1975 – thats pretty good.
However, picking individual stocks can make you some serious money. Many big public companies have experienced 50%, 100%, and 200%+ gains in just 12-24 months. Thats a huge return on your investment (ROI).
"It's not how much money you make, but how much money you keep, how hard it works for you, and how many generations you keep it for." — Robert Kiyosaki
But finding these winners takes time, research, and patience. Patience is the key to success in the stock market.
So, set your expectations straight on making money with the stock market. You may find a winner that keeps on winning for years. You may also loose your entire investment on a single stock (they CAN and DO go to zero). But, if you invest regularly and keep with it – you will make money.
The stock market can and will – with time and patience – make you wealthy.
Ok, now let's learn how to make some money investing in stocks!
Invest Regularly and Stick with It
A big mistake many new investors make is to invest a big chunk of money, see the stock prices go down, and give up. Newbies tend to sell when they loose money, or just let it sit there forever and never invest again.
The feeling of loosing money is something that every investor experiences. However, if you contribute more money on a regular basis and continue to watch your investments–eventually you start making money.
"The individual investor should act consistently as an investor and not as a speculator." — Ben Graham
Say you have $1000 to invest. A great way to get started is to choose an ETF or stock and buy $100 worth of it today. In two weeks or a month from now, buy $100 more of the same investment OR choose another investment. Repeat this on a regular schedule (weekly, bi-weekly, or monthly).
If your initial investment of $100 is currently worth $90, buying more at a lower price doubles your stake in the investment but at a lower price than your initial investment– this is called dollar cost averaging. This is also how good investors gain big stakes in their favorite investments.
The key to getting wealthy in the stock market is to invest regularly and stick with it.
Next, we'll cover what you can actually put your money on...
Invest in Index Funds and ETFs
Index funds and ETFs (Exchange traded funds) are the best way for new investors (and most investors) to get started investing in stocks.
Index funds and ETFs allow you to invest in a collection the stocks in a sector or index at once. Investing in hundreds or thousands of stocks is much less risky than investing in just one. Funds are designed to match the underlying index or theme they’re tied to.
A single share of an S&P 500 index fund (SPY for example) will give you ownership of a small pieces of the 500 largest publicly traded companies in America.
"Don't look for the needle in the haystack. Just buy the haystack!" — John Bogle
There are Index funds and ETFs that cover energy, utilities, technology, biotechnology, health care – or even trends such as cannabis and crypto-currency. You can invest in funds which specialize in foreign and emerging markets. You can even choose special funds based on your investing goals such as growth stocks or high dividend stocks.
The options for Index funds and ETFs is endless.
The major benefit to investing in funds is that they are never tied to one single stock that could go to zero at any time. You are immediately diversified – a stress-free way to invest.
Now let's take a look at the opposite (and more risky option) of funds...
Invest in Individual Stocks
Individual stocks are small pieces of ownership in individual publicly traded companies. If you buy a share of AMZN– you technically own a small fraction of Amazon.
You can purchase a share of a company on the stock market at whatever the given price is at that moment. Essentially prices of stock move up and down according to how many people are buying (or selling) the stock – and based on how a company is performing – or intended to perform.
"Know what you own, and know why you own it."
— Peter Lynch
Should you invest in individual stocks?
If you don't have any knowledge of the stock market, the company you are investing in, or you hate loosing money – the answer is NO.
It's hard to beat index funds by picking individual stocks.
However, if you are interested in owning a small piece of a business you love, have first-hand knowledge of a growing industry, and are able to keep up to date with headlines and progress of a particular company – YES, investing in individual stocks may be right for you.
I have personally made a lot of money by investing in individual stocks. But, not from secret insider tips, or strangers on reddit.
I invested in Apple in the early 2000's. I studied graphic design and photography in college and Apple was used by everyone in the industry. I felt like the company was the leader in technology and I loved the ecosystem. I felt like they had the best computer operating system. And then they launched iPod. And then the iPhone came out. And then the iPad. You get the point. I loved the company and wanted to be a part of it.
Back in 2010 I heard about this guy named Elon Musk who had a super cool looking electric car – and I wanted one. I could not afford the car, so I purchased the stock instead. I have since sold my shares– but they could have bought me a Tesla. Instead I purchased shares in other companies I loved and followed such as Google, Facebook, Amazon, and most recently Shopify.
I don't recommend going out and picking stocks to try and beat the market – because the odds are against you. But if you see a company you love and want to own a piece – buy one share. Add more a little bit at a time. Just be sure to be diversified with other investments in case you are wrong.
Diversify Your Portfolio of Stocks
Diversification reduces the volatility in your portfolio, saves yourself from relying too heavily on one single investment, and will improve your overall long-term returns. Simply-put, you should never bet one one single stock or sector.
If you’re investing in index funds or ETFs, you’re already diversified among stocks. Index funds hold hundreds to thousands of individual companies. But if you are investing in sector specific stocks– be sure to invest in more.
In addition to investing in a diversification in stocks– its also a good idea to invest in other assets such as bonds, real estate, cash, or even alternative investments such as crypto currency.
Now, lets learn where you should put these investments...
Invest using Tax-Sheltered Retirement Accounts
The best way to invest in stocks is through a tax-sheltered retirement account such as an IRA or an employer-sponsored plan, like a 401(k) or a 403(b). Ninety percent of my investments are growing every year without me sending a dime to uncle sam because they are in my Roth or Traditional IRA. The tax-saving benefits for using tax-sheltered retirement accounts in mind-blowing.
Contributions to a 401(k), 403(b) and traditional IRAs (not Roth IRAs) are generally tax-deductible – meaning you wont pay taxes on them today, and it lowers your tax bill at the end of the year. Taxes will be due when you deduct from these accounts in retirement – but your money will have compounded for years. Plus, you are likely to be in a lower tax bracket when you retire.
Roth IRA's are one of the best tools to invest your money. While you will pay taxes on the contributions, your investments within your IRA will grow tax-free for the rest of your life. You also have access to your contributions in the event of an emergency – though it's never a good idea.
But what if you want to use your investment money BEFORE you retire?
Investing in a Taxable Account
A taxable investment account, or brokerage account, allows you to invest in stock (and many other assets) without the contribution limits or deduction rules of retirement accounts. So you can invest as much as you want, and use the money anytime you chose (as long as you pay tax on the gains).
Many investors use both tax-deferred retirement accounts and taxable accounts to generate wealth with stocks.
The money you use to fund taxable accounts is earned income–money you will pay taxes on each year to uncle sam.
However, these are called "taxable accounts" for a reason. Anytime you sell an investment or receive a dividend – this is known as a "taxable event", and you owe money to the tax-man. Money made on investments is categorized as either long-term or short-term capital gains.
Long-term capital gains are profits from assets that are held for more than one year and taxed at 0%, 15%, or 20% depending upon your income. The tax rate for most middle-class taxpayers who report long-term capital gains is 15%.
Short-term capital gains are taxed just like your ordinary income– again dependent upon your income bracket. This can be a big bill if you trade stock regularly.
The important thing to remember when investing in taxable accounts is what you will owe when you sell an asset.
Now, lets talk about how allocation...
Allocation: What to Invest In and Where to Invest It
You will read a lot of different advice when it comes to where to put your money. Everyone has a unique situation – different income, expenses, goals, risk tolerance, etc. – there is no one right answer here.
Most people should simply invest in total market index fund or ETF and contribute as often as possible. This is the easiest and surest way to gain wealth in the stock market.
However, if you are like me and have an interest in investing in additional assets and individual stocks – you should set an allocation that meets your risk tolerance.
I always suggest that your allocation in in a balanced index fund be AT LEAST 50%. I put 50% of my personal investments in VOO. The other 50% I split up and invest in individual growth stocks, dividend stocks, REITs, real estate, and alternative assets. This half of my portfolio are things I am familiar with, have faith will increase in value, and I am able to follow on a regular basis.
For many, the allocation should be more like 75% or even 90% index funds. Its all about your age, risk tolerance, and familiarity with an investment.
Things Change – Be Prepared to Change With Them
Accidents happen. Jobs are lost. People mess up. Planes crash. Wars break out. Pandemics break out. You get the picture.
"You get recessions, you have stock market declines. If you don't understand that's going to happen, then you're not ready, you won't do well in the markets." — Peter Lynch
Investing in stocks takes a thick skin. The value of your investments will rise and fall at the drop of a hat – and it's out of your control.
You can only control two things when it comes to owning a stock: if you keep it and how you feel about it. If the latter gets you down, you best think hardly about the former.