You’re in a position to start investing and adding stocks to your portfolio. There’s only one problem — you aren’t sure how many to buy.
This is one of the most common challenges that investors of all levels face. Allocation is not an easy task.
In some cases, overly aggressive investors go off the rails and start snapping up everything they can afford, from Apple ($AAPL) and Microsoft ($MSFT) to Amazon ($AMZN) and Berkshire Hathaway ($BRK.B) and everything in between.
At the opposite end of the spectrum, some avoid stocks entirely out of fear or because they don’t want to put all of their eggs in one basket. So, instead, they might opt to buy exchange-traded funds (ETFs) and mutual funds to spread risk around a bit and reap the benefits of diversification.
If you’re looking to unlock massive gains in the market, stocks can be a great option. Keep reading for some guidance on how to build your portfolio.
Stock Buying Tips for the Average Investor
1. Think Long Term
One reason why investors wind up spinning their wheels with stocks is that they have a short-term investment strategy, treating the stock market as a casino in pursuit of higher returns. So often, new investors get excited about the “hot ticker” that everyone’s talking about, throwing their money into shares without even knowing what the company does. Not surprisingly, that usually doesn’t turn out very well.
Before you start looking at stocks, understand that succeeding in the market and making significant gains is probably going to take years — and decades even. Commit to companies for the long term. This changes how you look at the companies you invest in, and it’s one of the best pieces of financial advice you’ll ever receive.
2. Look to Reduce Risk
When buying stocks, all investors are exposed to a level of systematic risk, which is more commonly referred to as volatility. This type of risk affects the entire market — even the so-called best stocks. It’s unpredictable and there is no way to avoid it.
What investors can watch out for is unsystematic, or diversifiable risk, which is specific to individual companies and industries. In short, the more companies and industries you invest in, the lower your risk becomes thanks to an investing tactic called diversification.
In other words, investing in eight companies is less risky than investing all of your money in one or two. In this scenario, the likelihood of all your investments bottoming out is relatively low — as long as they are not all in the same industry.
3. Start with the Passive Approach
Another challenge that investors face when entering the stock market is that there are a ton of choices and it could take time to get your portfolio properly and comfortably diversified. You might love Amazon, for example, but with shares trading at more than $3,000, even if you buy a fractional share, you could easily drop all of your investing money into single stock.
Instead of putting all your eggs in one basket, you could instead look into an affordable index fund that contains a particular company that you’re looking at along with a stockpile of other companies. In doing so, you could benefit from that company’s performance along with several other companies in that fund.
Most index funds are passively managed. This means that they do not have a dedicated portfolio manager and are designed to track the overall market instead of trying to beat it. Often, index funds outperform managed funds because those manager fees outweigh any gains a hands-on approach might add to the returns.
4. Add Individual Stocks
Once you build a core foundation with index funds, the next step is to start adding individual stocks to your investment portfolio.
This can be a daunting task when considering the sheer volume of companies that you have to sort through. To make the process easier, start by purchasing proven companies with a long history of success. You’re going to be an owner of the companies you buy, so make sure you think they have a bright future.
Look for organizations that are stable and performing well, have brand names, and pay generous dividends. if you’re not sure where to start, think about some of your favorite companies and look up their stock information in your brokerage account.
It’s also a good idea to learn how to read stock charts and understand business and investing metrics. For example, it’s a lot more impactful to assess a company based on metrics like its price-to-earnings (P/E) ratio, its price-to-book ratio (P/B ratio), or dividend yield than it is to take someone’s advice without researching what the company is all about. That’s an easy way to get manipulated.
As for volume, you’ll want to work to get to 10 stocks or more in your stock portfolio as quickly as you can, and avoid putting more than 10% of your portfolio into a single organization. As time goes on, build off of that, and pick up additional stocks, or add to your existing ones, when you have more funds to invest.
5. Diversify Your Portfolio
Once you build a core portfolio full of index funds and individual stocks, you can then turn your attention to diversifying your holdings and adding other types of investments.
For example, you may want to add mutual funds, which are actively managed baskets of securities that attempt to beat the stock market. Or you may want to focus on buying real estate investment trusts (REITs), bonds, or even cryptocurrency.
Taking this approach can add further diversification to your overall portfolio, reducing risk and putting you in a strong position to achieve steady growth over time (assuming you pick the right funds, that is).
Tips for Buying Stocks
Buy Companies, Not Stocks
Warren Buffett has a simple exercise he recommends to investors: Take out a yellow pad and write down why you’re buying a company before you make a purchase.
Buffett’s philosophy is that investors should understand the company that they are investing in. They should also believe in the company’s long-term ability to produce. Focus less on how that company is going to perform in the short-term and look at their underlying offering, structure, competition, and strategy.
This helps when narrowing down your list of stocks you want to buy. Form a list of companies that you know and understand before you put money into organizations you don’t know about.
Avoid Emotional Decisions
As you move forward with investing, you’re going to feel like a kid in a candy store at times as you learn about emerging stocks that are on the cusp of skyrocketing.
The best thing you can do as an investor is to have some restraint. If you start throwing it at every hot ticker you hear about on social media, you’re going to dilute your portfolio and add risk at the same time. This is an easy way to lose money and regret your decisions.
For the best results, be methodical about investing and avoid rushing in and investing too quickly or selling stocks if they’re underperforming. A calm, rational temperament is a successful investor’s biggest asset.
Consider an Advisory Service
One of the best things that beginner investors can do is to admit they don’t know what they’re doing and rely on experts to help make decisions with them. It turns out that there is an abundance of information at your fingertips and countless other investors willing to offer advice on how to build strategies and gain a strong foothold in the market.
As you move forward with your strategy, consider using a service like The Motley Fool’s Stock Advisor tool, offered by founders Tom Gardner and David Gardner. By signing up, you’ll receive monthly stock picks delivered straight to your inbox — along with an abundance of supporting research and additional tips to help guide your investment strategy.
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But why stop there? You should also listen to podcasts, sign up for additional newsletters, read blogs, and consider talking to a professional for assistance if needed. In addition, there are a variety of great investing books to explore like “A Random Walk Down Wall Street,” by Burton Malkiel and “The Little Book of Common Sense Investing,” by John C. Bogle, he of Vanguard fame.
The more opinions and perspectives you can draw from, the better off you will be. It’s really that simple.
Frequently Asked Questions
How many stocks should I own?
Beginner investors should work to reach a base level of 10 stocks, and feel free to include index funds or ETFs in that number if you’d like.
To reduce risk, consider spreading a lump sum equally among multiple companies. As a tip, you can use fractional shares to buy smaller amounts of companies that may be too expensive to obtain. If you reinvest your dividends over time, you can work your way up to a full share and take things from there.
Is it bad to sell stocks often?
If you’re thinking long-term, the general rule of thumb is to buy stocks that you should never have to sell.
Of course, there are exceptions — if a company’s business model has changed or you no longer believe in its leadership, for example. And sometimes you have to think short-term to make a profit or reduce risk. What you want to avoid is getting into a situation where you are constantly moving stocks around to try and make a quick buck, chasing the latest thing. This is called day trading, and it’s extremely risky. Plus, there are short-term capital gains taxes to consider, too.
If you find that you’re moving stocks around too often, think about slowing down, catching your breath, and forming a new strategy. Trading too often can lead to more harm than good in the long run, and so many investors say their greatest mistake in the market is selling a great company too early.
I bought too many stocks. Now what?
Don’t worry if you went a little overboard with the number of stocks you bought. This is a common error that beginners make and it’s not the end of the world.
What you’ll want to do is look at your portfolio of stocks, and determine what makes sense to move and what you should keep around. For example, if you bought 20 or 30 stocks, consider having fewer stocks from top-performing companies for a more concentrated portfolio.
Just remember that if you sell a stock through a brokerage account and profit from it, you’ll have to pay a capital gains tax, and the tax rate is higher if you sell before owning a stock for a full year. If you sell through a traditional IRA, you will pay taxes during retirement.
What is diversification?
Diversification is the process of spreading different stocks and funds around in a portfolio to reduce unsystematic risk.
By building a diversified portfolio and investing in more than one company at a time, you can protect yourself should a company fail or should the value of an organization plummet unexpectedly.
The Bottom Line
Since you’re reading these words, it’s time to start investing (if you aren’t already). Every day that goes by is a day that you’re not bringing in returns from the stock market. This is time you will never get back. And in the stock market, time means everything.
Research the market, and start by spreading your money around strategically. Purchase index funds for passive investing and then mix in some stocks from at least 10 different companies.
Keep in mind that the investment decisions you make today have a direct impact on your future. Making a few sound decisions now can set you up for a lifetime of financial success. So take your time, build a sound strategy, and stick to it. But most importantly, get started! Before you know it, you’ll be well on your way to financial independence.