"How many millionaires do you know who have become wealthy by investing in savings accounts? I rest my case." -Robert G. Allen, best-selling author and investment adviser
To a beginner, investing may seem complicated and perhaps not worth it.
However, investing is a great way to ensure present and future long-term financial security. With over 55% of U.S. adults invested in the stock market, it’s now more important than ever to start investing.
The most common question for a beginner investor would be, “How do I start and grow my portfolio?” Here three ways to answer that question.
Figure out how much money to invest, create goals
When starting a portfolio, one needs to be realistic with their goals and allocate an amount that fits their overall financial objectives.
An example from Investopedia is, “For a 30-year old making $50,000 a year and a $1 million retirement savings goal, putting away $500 a month” should achieve that goal, provided investments return 6.5% per year.
There's no debate: Investing is one of the most powerful ways to generate wealth. The Madison Business Review's Phillip Roth breaks down differences between top online brokers to help JMU students put cash to work wisely.
In this example, it's recommended to invest 12% of one’s annual income, and most financial planners advise aiming to save between 10% and 15% of one’s annual income.
While still in the development phase of one’s portfolio, it’s vital to create goals and rules for it as well. Investopedia has a great list of popular types of portfolios anyone can strive for.
Aggressive portfolio: This portfolio takes on great risks in search of great returns. This portfolio type will typically have a high beta, meaning both its up and down moves are stronger than the market, and it’ll either make investors happy or severely stress them out.
Defensive portfolio: This portfolio focuses on sectors like consumer staples and utilities that are impervious to downturns. This type of portfolio would be great for combating times like the pandemic.
Hybrid portfolio: This portfolio prioritizes diversification across asset classes such as equities and fixed income securities. A 60-40 split between stocks and bonds or vice versa is often recommended.
Income portfolio: This portfolio concentrates on shareholder distributions via dividends, which are regular payments issued to shareholders willing to hold a stock. The primary focus of this portfolio is to select stocks with high dividend yields, regardless of industry or sector.
Speculative portfolio: This portfolio carries the highest risk out of the bunch, as it’s heavy on speculation on potential investments. Stocks in this portfolio are often small-cap companies in sectors like biotech or pharmaceuticals, where there are tons of strikeouts and a few home runs. Some may call gambling rather than investing.
It's important to carefully research and see what portfolio is the best fit based on one’s economic situation and time constraints.
Younger investors are generally encouraged to take on more risk since they have a whole lifetime to make up losses, while older investors usually aim for defensive or dividend-focused portfolios.
Understand, diversify and weigh portfolio
Warren Buffett, one the most respected and successful investors ever, often discusses the concept of the "circle of competence." This circle of competence means that an investor should be familiar with and have a thorough understanding of all the businesses they’re invested in.
This is crucial when first investing and even after investing for years. Following this concept will help one manage their portfolio well and make better investments.
Diversification is another important concept that many advisers encourage investors to follow. This technique aims to maximize returns and reduce risk by investing in different areas that would each react differently to the same event, such as the pandemic, by allocating investments among various asset classes and industries.
Similar to diversification, weighting a portfolio is essential because anyone can have investments across industries, but if 95% of the portfolio is in tech stocks, the portfolio wouldn’t be as diversified as one might think.
Portfolio weighting is highly dependent on the type of portfolio and goals one has, but it’s smart to research the proper weight for each stock or asset class that feels best. Trading platforms have introduced fractional shares in recent years, so this process is easier than ever.
Finally, investing is dynamic and forever changing. The best bet is to keep up with holdings, but don’t stress over any short term fluctuations.
Use plenty of resources to get different investing perspectives and news on holdings. Also, if one’s looking to sell investments, they should make sure to keep records for taxes.
These three high-flying software plays can and will win regardless of what happens in the fourth quarter of what’s been a 2020 for the record books in almost every way imaginable.
At this stage in the portfolio process, one will have a better understanding of investing so things won’t be as daunting, but it’ll still require a lot of effort to maintain the portfolio.
Remember original goals, and ask knowledgeable individuals for different perspectives on investments. Most importantly, keep portfolios diversified.
Bryce Roth is a junior finance major. Contact Bryce at firstname.lastname@example.org.