Money Girl explains the best ways to buy stock and gives a smart investing strategy to make them really pay off.
A Money Girl podcast listener named Iulia asks:
"I really don’t understand stocks or how investors make money with them. What should I know as a beginning investor?"
In this episode I’ll take the mystery out of stocks so you understand their pros and cons. You’ll find out the best ways to buy stock and get a smart investing strategy to make them really pay off.
How to Make Money Investing in Stocks
One of the best ways to invest money is to purchase assets that either create income, increase in value, or do both.
Some assets may only appreciate in price, such as an art collection or precious metals. You buy them with the idea that they’ll be worth more in the future so you can sell them for a profit. And some assets may only give you income, such as a bond that pays a fixed amount of interest.
Investments that offer the potential for both income and price appreciation include:
- Rental property
What Are Stocks?
So let’s dig into stocks and why I recommend them for every investor. But first, why do companies issue stock in the first place?
Companies issue stock to raise money from investors—it’s that simple. Maybe a company needs to fund groundbreaking research, open a division in a foreign country, or hire a crew of talented engineers.
Stocks are intangible assets that give you ownership in a company. That’s why they’re also known as equities or equity investments. Owning stock entitles you to part of a company’s earnings and assets.
As I mentioned, stocks can increase in value, which is called capital appreciation. As I’m writing this episode, Facebook (FB) and Apple (AAPL) stock can be purchased on the NASDAQ exchange for $59.83 and $593.76 per share respectively. Walt Disney (DIS) stock is selling on the New York Stock Exchange for $15.03.
So, if you buy Walt Disney at $15.03 per share and the price goes up to $30, you can sell it for a gain of $14.79 ($30 - $15.03). You can easily find current stock price quotes on sites like Google Finance and Yahoo Finance.
In addition to capital appreciation, some stocks also allow you to be paid a portion of company profits. That's called a dividend stock and it distributes dividend payments to stockholders.
For instance, right now Discover (DFS) pays a dividend of $0.24 a share. That means if you own 1,000 shares of Discover, you’d be paid $240 in dividends over the course of a year.
Dividend stocks pay you even when the share price goes down, so owning them is a smart way to hedge against potential market losses. You can find a list of dividend stocks on a site like Morningstar.com.
Pros and Cons of Investing in Stock
There are many advantages to investing in stocks. One is that you don’t need much money to buy them, like you do for other assets like real estate or businesses. Buying just one share makes you an instant business owner without having to invest your life savings or take on all the risk.
Although there’s no guarantee that every stock will increase in value, since 1926, the average large stock has returned close to 10% a year.
The biggest advantage of stocks is that they offer the greatest potential for growth. Although there’s no guarantee that every stock will increase in value, since 1926, the average large stock has returned close to 10% a year.
If you’re investing for a long-term goal like retirement, stocks turbo charge your portfolio and give you the growth you’ll need to achieve it. Over the long term, no other type of common investment performs better than stocks.
The major disadvantage to investing in stocks is that prices can be volatile and spike up or plummet quickly as trading volume fluctuates. News, earnings forecasts, and quarterly financial statements are just a few triggers that cause investors to buy or sell shares, and that activity influences a stock's price.
Price volatility is why stocks are one of the riskiest investments to own in the short term. Investing at the wrong time could wipe out your portfolio or cause you to lose money if you need to sell on a day when the price is below what you originally paid for the shares.
See also: 8 Tips to Invest Without Too Much Risk