How To Invest in the Stock Market
Growing future wealth and creating financial security are two common reasons people want to learn how to invest money in the stock market. Many would-be traders are wary of the potential risks associated with stock market investing, but with the right strategies, they may be able to decrease risks and increase their earnings over time. This comprehensive guide will help take the guesswork out of learning to invest money in stocks.
Many people enjoy the research process, but trading on the stock market doesn’t have to mean spending hours poring over the financial pages and investment apps. Modern investment software can do all the work after the investor answers a few simple questions about their financial goals and characteristics. One example of a fund that investors can set and forget is the target retirement date fund, which is offered through many 401(k) accounts.
For investors who prefer to be more hands-on, it’s important to learn how to invest, and they can follow these steps to get started.
To become a successful investor, the first step is to create a solid investment plan that accounts for an individual’s budget and financial goals. The investor should decide how much money they can afford to invest in the stock market and determine the eventual purpose for those funds. Most financial experts also recommend paying down high-interest debt like credit cards before investing.
For example, stocks make sense for individuals who want to invest for retirement but plan to work for at least five more years. The stock market lacks the liquidity for short-term goals like a home down payment or vacation. Putting money in stocks for just a few months or years also increases the risk of losing the initial investment.
An investor has to open an account with a brokerage firm to begin trading stocks. New traders who want to start small can shop around for a broker without a required account minimum or with a low minimum threshold.
After signing up with a broker, the investor can purchase stocks through an individual retirement account to access associated tax advantages. Those who are already maxed out on retirement can use a broker account to buy and sell stocks on a taxable basis.
When looking for a broker, considerations include:
Most people first begin investing when they contribute to an employer-sponsored account, such as a 401(k) or 403(b). Many companies even match a percentage of these contributions, so employees should plan to invest enough to qualify for this benefit.
Beginning investors can also take advantage of free investing advice and other resources through their employer plans. They can select their own investments or take a hands-off approach by using the plan’s robo-advising software. Usually, these accounts allow traders to invest either a flat dollar amount per paycheck or a percentage of their salaries.
Individuals who either max out their employer plans, don’t have this benefit, freelance, or own a business can access tax-advantaged retirement savings and invest in the market through an individual retirement account (IRA). The 2020 contribution limit for an IRA is $6,000 for anyone below age 50 and $7,000 for anyone 50 or older. This reduces the person’s taxable income for the year. To max out the contribution, a person might set a recurring deposit of $500 per month to meet that max limit.
Image via Flickr by Robert Scoble
New traders who have concerns about losing money in the stock market should know that investors who hold stocks for the long term (at least five years) have an average historical return of about 10%.
A diverse portfolio is the key to lowering investment risk. Experts recommend a mix of exchange-traded funds (ETFs) and mutual funds, which provide access to a range of stocks and bonds at an affordable price. Most employer retirement accounts are heavy on these investments.
With ETFs and mutual funds, the investor purchases a ‘bucket’ of securities that consists of small shares of various bonds and stocks. For example, traders can purchase an ETF designed to mimic the performance of a major stock index, such as the Standard & Poor 500. This approach offers instant diversity, so it’s a much lower risk than investing in individual stock shares. Index funds that track the S&P 500 rarely perform worse than the market. Active management mutual funds have a professional investor who picks the stocks.
New traders who want to play around with individual stock purchases should dedicate no more than 10% of their holdings to that purpose until they gain the necessary experience. Those who plan to hold stock shares for at least five years can take advantage of this long position by choosing a growth stock. These shares let investors get in on the ground floor of a company poised for an impressive value increase, although they also carry the risk of failure.
Some experts recommend building an individual stock portfolio slowly by investing in 100 shares of a single company, then gradually expanding these holdings with 100 shares of another firm, and so on. Traders should set criteria for choosing companies to invest in based on their own financial goals, ethics, and other parts of the trading strategy.
Blue-chip stocks are also a smart investment since they often pay dividends. With this type of arrangement, the shareholder receives a periodic profit-share from the company (often quarterly) in addition to interest on their initial investment. The person can take cash dividends or automatically reinvest them to earn even more compound interest. Examples of stable blue-chip firms include Procter & Gamble, Coca-Cola, and Microsoft. Investors can potentially avoid commissions through a company’s direct stock purchase program.
No matter what financial assets an investor chooses to pursue, experts recommend automating investments with a payroll contribution or regular bank transfer. Traders call the strategy of spreading out investments over time dollar-cost averaging. This methodical approach takes the emotion out of the stock market and allows investors to focus on the big picture of their long-term financial goals.
Even investors who prefer a passive management strategy over an active strategy should check the performance of their holdings every so often. Most experts recommend doing this monthly or quarterly. During this review, the stockholder should consider whether their current asset mix makes sense for their goals and risk tolerance. Changes in market value can dramatically affect the risk level of a portfolio, throwing it out of balance. In general, long-term traders should make adjustments only as needed.
Anyone who wants to create a strong financial future with investing can get started with these six steps. Learning more about the trading world allows investors to take advantage of more sophisticated strategies when they want to branch out.
2020 created amazing opportunities for traders and investors, flooding the market with new players.
Some of these players have been dumping their hard-earned cash into bankrupt companies, not knowing they could potentially lose it all.
Heck, some analysts have their heads stuck in the sand, thinking that a vaccine will cure sick businesses.
They don’t have skin in the game and realize how broken they were before the pandemic.
No matter what American Airlines does, they can’t prevent this outcome.
And if you think that high fliers like NIO (NIO) aren’t due for a huge pullback, think again.
Just because something is cheap or on a bull run doesn’t mean it’s a good investment.
Ignore the risks, and you could be staring down the goose egg in your trading account.
You can avoid this with some simple due diligence that I’ll help you with today.
Let me explain how I measure risk and what it looks like.
Then I’ll walk you through several examples and what to look out for.
Companies don’t need to declare bankruptcy to crash and burn.
Just look at Luckin Coffee (LK). A good ‘ol fashioned accounting scandal is more than enough to send a stock into a tailspin.
In fact, exchanges can delist shares of a company for a variety of reasons that have nothing to do with bankruptcy.
This risk runs higher for foreign companies listed on U.S. exchanges (especially ones where governments aren’t allies like China).
Outside of that, bankruptcy comes in two forms: Chapter 7 and 11.
Chapter 7 is less common. That’s the kind where you walk by the old office and find one of these going on.
Chapter 11 allows a company to reorganize and restructure its debt.
In both cases, you get the short end of the stick as the stockholder.
So it’s important to evaluate whether a company is likely to run into issues.
During the pandemic, we saw Hertz (HTZ) go bankrupt quickly.
They didn’t have enough cash on-hand to survive, and any lengthy shutdown in operations pushed them over the cliff.
That’s been a growing concern as the Fed makes debt super cheap. It props up companies that shouldn’t be in business. They are barely afloat, and one event away from bankruptcy.
I look for companies with low cash on hand with high levels of debt as big risks. Businesses with more cyclical performance, like consumer discretionary items, are at the highest risk.
A great measurement to use is called the Altman Z-score. It measures the credit strength of a company and does a pretty good job of highlighting risk.
What you need to know are scores that fall below 1.8 indicate a high likelihood of bankruptcy while above 3.0 is unlikely.
The other metric that I find useful is the Piotroski F-score.
It measures the fundamental health of a company, and can even point to solid investments that span decades. It ranges from 0-9, with 0 being OMG the company is a disaster to 9 being a stable business.
When I select stocks for my Portfolio Accelerator, I go with a mix of high-quality balance sheets and fundamentals along with some that carry more risk.
However, I never go near ones that I worry might not exist in the future.
Speaking of which – let’s look at some of those corporations we’ll be saying so long to in 2021.
Imagine mortgaging your house to pay your credit cards.
That’s essentially what Macy’s is looking to do.
While the company managed to become cash-flow positive last quarter, they’re not doing well by any stretch.
Competitors like Neiman Marcus already filed for bankruptcy.
Macy’s hasn’t been relevant for years, and the pandemic only made it worse.
Just look at the long-term chart and you’ll see what I mean.
M Monthly Chart
If they survive, I don’t see them growing anytime soon.
The stock is dead-weight and not one I even want to trade.
The way 3D printing blew up years ago, you would have thought everyone would have one.
Turns out that was a fad too good to be true.
While 3D printing technology still holds promise, you can’t run a company like garbage and expect to survive.
Here’s the funny part – the company boasts a 40% gross margin.
That means they lose money on their sales, general, and administrative expenses – one area you should be able to control.
Yet their growth stagnated and debt increased the last few years…before the pandemic.
It highlights a failing business that has a rough road ahead of it.
Let me give you a little comparison here.
Delta Airlines (DAL) has an F-Score of 3 and a Z-Score of 0.07.
Hawaiian Airlines (HA) has an F-Score of 3 and a Z-Score of 0.05.
So, why am I picking on American Airlines?
Well, because they were terrible before the pandemic.
Are you seeing a theme here? If your business sucked before COVID, it didn’t magically get better!
American Airlines hasn’t generated free cash flow since 2016 – an entire presidential cycle ago.
Delta Airlines managed to do that last year.
You can see the relative outperformance from 2016 through the end of 2019.
Delta Airlines (DAL – Pink) vs American Airlines (AAL – Green) 2016-2019
Unlike the other two companies listed above, I think American Airlines could get bought out by a competitor. However, don’t expect that to happen anytime soon.
I know that fundamentals have been out the window for some time in 2020.
But using a combination of F Score and Z Score is one of the purest ways to discover what is a sound business and what is a pile of junk on the verge of implosion.
I’m always looking for those sound businesses that are on the verge of the next megatrend.
And I can screen out all of the junk in the market. We’re going to get a pullback. But my system aims to limit risk, eliminates thousands of worthless companies, and focuses on the
More importantly, I want to squeeze every penny I can out of any stock I purchase.
I don’t just want to beat the market. I want to CRUSH IT.
That’s where my Portfolio Accelerator comes in.
With this exclusive service, I don’t just invest in companies. I also use simple options strategies to ENHANCE my returns. In the last week alone, I’ve closed out gains of 82.5%, 100%, 80%, 100%, and 78%… just selling simple options on the stocks I want to own.
I don’t just buy stocks with Portfolio Accelerator. I get paid by other investors to wait for the stock to fall to the price I want to pay for it. It’s that simple.
Stop buying useless penny stocks or speculating on broken companies.
Last week, I surprised you with a simple way to tell you about the health of the U.S. economy with three simple numbers…
Only SEVEN COMPANIES passed the test.
It turns out that Rent-A-Center (RCII) has a very strong balance sheet… a low chance of bankruptcy… and the strongest yield of any.
Of course… everything is on fire right now because the markets expect that the Federal Reserve will shower the economy will money in the months ahead.
But a pullback is coming at some point. They are inevitable…
How do you know what companies face the highest chance of a reckoning?
Use the same numbers I’ve been using all month to find the best stocks… just seek the weakest companies with the ugliest balance sheets. I’ll show you how.
Remember I am looking for stocks that have two things off the bat.
1 – Piotroski F-Score
As I’ve noted, the F-Score is a nine-point ranking system that tells me the strength of a company’s financial position. I’ve covered how it works in this post. In today’s economy and for the purpose of this investment, I’m only focusing on stocks that have a perfect score. But today, I’m going to focus on companies that have a score of 2 or less.
2 – A Strong Altman Z- Score
The Altman Z Score is a credit-stress test that tells me the probability that a company might go out of business. Based on five financial ratios calculated from a company’s public filings, the lower the score, the higher the likelihood of bankruptcy. Again, I’ve already covered why the Z score is so important.
If a company has a score of less than 2.5, that’s a red flag.
If it’s under 1.8, then it could be facing a serious bankruptcy risk.
And if it’s 1 or less, then it’s going to either need a bailout or a massive catalyst to stop the bleeding.
Looking at the Numbers – It’s Ugly
I ran the numbers, and there are 434 public U.S. companies currently trading with an F score of 2 or less… and a Z score under 1.
And there are 80 that have an F Score of 1 and Z Score under 1.
Yet, there are only 12 companies that have a Perfect F Score and a Z Score over 2.9 (and just seven of those pay a dividend).
Sure, there are A LOT of unprofitable biotech stocks on this list.
But wait until you see just how many so-called “Blue Chip” stocks are also on this list of absolute hot garbage.
Listen, I put together a Watch List of Stocks that I want to buy at any given moment. I send it to you free every morning.
But right now… before Thanksgiving… let’s look at the stocks that are starting to scare the shit out of me. These are the companies that I want to avoid based on the numbers.
There are a lot of common names on this list… and you might even have some of them in your Long Term portfolio at home.
Of course, many of these companies are relying on a vaccine to help get the economy back to normal. I don’t see a company on here that will ever get back to the “2019” financial levels that they enjoyed.
In fact, I expect that any of these that pay a dividend will likely need to cut it to the bone. They’re going to need the cash flow. I’ll be targeting them.
In the coming weeks, I’ll be talking more about various ways to take advantage of a pullback. Many of these stocks are flying too close to the Sun right now after the recent rally.
I’m already targeting stocks that I want to own in my Portfolio Accelerator (which I have just to a special one-month price of $99).
But soon, I’ll begin targeting ways to make money on these ugly stocks.
Look for a very special report on how I target these losers.
Enjoy your Thanksgiving,