First Steps: Investing for Beginners
Blinding graphs, figures and metrics are churned out regularly and sometimes look like a different language. Wombat is trying to make things easier. With the right plan in place, we hope that normal people will no longer have to miss out on potential returns.
Investing all of your money into a single stock isn’t a good idea. You’ll need a basic plan or strategy to help guide your investments onto a path of future growth. We believe it’s easier than it looks. We’ll take you through the process of deciding your strategy, step-by-step so that you’ll feel confident about your investment approach in the market.
"If you have more than 120 or 130 I.Q points, you can afford to give the rest away. You don't need extraordinary intelligence to succeed as and investor"
- Warren Buffett
1. Risk tolerance
The riskier a stock is, the more volatile it will likely be. This means that over time, there’s a higher chance it will gain value rapidly but also see large drops in value over time. It can also be looked at as unpredictability of a stock.
If you think about a company that’s been around for a long time and has a product that you’re pretty sure will still be needed in 20 years, then it’s likely the stock won’t be too volatile. But if you’re investing in a company based on a new innovative technology that hasn’t been tested in the market yet, it’s likely to be a lot more risky and volatile.
How old you are and the financial situation that you are in will be the most important factors in determining your risk tolerance.
Risk tolerance refers to how much risk you are willing to take. Now, this shouldn’t just be a binary choice between risky or not risky. Rather, let your risk tolerance be the blend of risk that you take when you make your investments. If you have quite a low-risk tolerance, perhaps because you are older and wouldn’t want to lose your money, then you might invest 90% of your money into less risky items, while leaving 10% for a few more risky options. It’s important to understand how much you are willing to risk as part of your investments.
2. Deciding your risk tolerance
Younger investors tend to be more able to take on more risky investments. They may see the value of these investments drop during times of market recession, but they will also have time on their side when it comes to the markets picking back up again. Older investors with less time will likely want to protect the money that they do have so that they can enjoy it in their retirement. This means they generally take a less risky approach, in case of the period when they cash out happens to be in a market downturn.
The older i get, the more i see a straight path where i want to go. If you're going to hunt elephants, don't get off the trail for a rabbit"
- T.Boone Pickens - Oil Magnate
It’s also important to think about how you generally approach risk. How would you react if you suddenly see a large market drop? Do you think you could ride it out? If you would lose sleep over your investments, then maybe you should take a more conservative approach to investing.
3. Setting your budget
Before you start investing, it’s probably best to first have an emergency savings fund worth about three to six months of your current expenses. After that’s locked up, you’re ready to put new savings towards investing.
If your goal is to save for retirement, your best bet will be to regularly invest small amounts over a longer period of time. This is called dollar-cost averaging (or pound-cost averaging). If you invest over a longer period of time, you’re more likely to invest, on average, at the real price of stock.
If you invest everything in one lump sum, you might be buying at a price point that is too high. Trying to time the market to buy when the price is low is a typical downfall of the average investor – it’s very difficult to do and evidence shows that most people who try this, fail.
So, how do you actually set your budget? Try these steps…
- Set your overall future goal
- Calculate how much you can afford to invest
- Use a compound interest calculator to see how much you’ll have to invest to reach your goal.
4. Investing in stocks
Owning a stock means you own a small piece of a publicly traded company – this is the most basic investment out there.
Depending on the company’s performance, the value of the stock will go up or down. Think of it like this – if the company is doing well, more people will want the stock, which means the price goes up. The opposite goes for if the company isn’t doing well.
Shareholders trade their shares on the stock market, with some believing that the shares will go up and some that they will go down. When holding a diversified portfolio, it’s typically recommended that you hold on to your stock even when it’s going down.
In a diversified portfolio, you’ll be holding on to stocks and funds from a wide range of sectors and countries. This means that the decrease in one single investment will hopefully be held up by stability or growth in others.
5. Getting started
Now that you’re familiar with the basics, it’s time to open an investment account to actually start trading.
Wombat lets you get started with as little as £10 with access to a broad range of stocks and ETFs.