Nowadays, people are constantly told to start investing and strive to achieve financial independence.
While it’s all well and good, it might be a bit vague for a beginner who has no idea how to become an investor.
A lot of new investors also wonder what being an investor actually is. Because there are an endless amount of investment strategies and investors out there, it’s a difficult question to answer.
For me, investing is a way to build wealth by owning a selection of companies for a long time.
For others, it might be something different.
There’s no single right answer to how you should invest, but I believe these five steps on how to become an investor will help you get started no matter what your investment strategy will end up being!
Should You Become an Investor
The simple answer is yes. You should become an investor.
Investing is the best way to achieve financial independence and keep inflation from eroding your savings.
While it’s always a great idea to invest a portion of your savings, you need to have your personal finances in order before you do.
There’s really not much point in investing if you need the invested money for living expenses.
When you have to sell your holdings just to pay the bills, you not only pay heavy transaction fees but you’re also likely to be forced to sell at a loss due to market fluctuations.
Therefore, the first step toward investing would be to make sure you have a balanced personal budget. This means you should know how to save before you start to invest.
If you’re new to personal finance, you might find these basic rules helpful.
Decide What Kind of an Investor You Want to Become
Usually, when people talk about investing, they mean investing in stocks. There are a lot of different assets to invest in, but in this article, we focus solely on stock investing.
Once you have your finances in order and have decided to start investing, the first thing you need to do is to define your risk profile. Your risk profile determines what you should invest in and how to do it.
Also, you need to figure out whether you want to be a long-term investor or a short-term investor.
Personally, I find long-term investing to be the most profitable form of investing.
When it comes to stock investing, the choice is usually made between investing in individual stocks or funds.
If you can handle more risk and are striving to beat the average market return, you’re most likely going to be a stock-picker. If, on the other hand, you want to play it safe with less effort, funds are probably the best solution.
Individual Stocks
Investing in individual stocks requires a certain amount of research, which is why it takes quite a bit of time and effort. You also need to know how to analyze a company to make a successful investment.
While this method of investing is by far the most arduous, it can also be tremendously rewarding and profitable.
It’s important to remember that even if you do your research well and happen to be right about the company, it can take several years for the market to prove you right. The stock doesn’t know you own it.
That’s why investing in individual stocks requires patience and a high level of risk tolerance. You need to be able to look at a stock that’s not doing so well and continue to hold it until the market has realized its possible potential.
Funds
Investing in funds is an easier solution since it doesn’t require so much time and you don’t really need any analyzing skills.
What you do need to do is to decide whether you want to invest in actively managed funds or passive index funds.
Personally, I would start with a broadly diversified index fund like the S&P 500 and invest regularly with a monthly-based investment plan.
Actively managed funds rarely outperform the market because of expenses and the sheer difficulty of running a successful mutual fund.
When you invest in passive index funds, you’ll probably outperform most investors and institutions with minimal effort.
Although regular fund investing is the easiest way of investing, there are some common mistakes to avoid, like trying to time your transactions and having unrealistic expectations about returns.
Regular investing requires discipline and patience. You also need to internalize the concept of compounding to help you achieve long-term success.
The most successful investors like Warren Buffett owe their success to steady returns and a long time frame. That’s an environment where compounding thrives.
Learn to Earn
When it comes to investing, it does pay to know more. No matter what your investment strategy is, it never hurts to learn.
To become a successful investor, you need both experience and general knowledge about investing.
The best way to learn about stocks is by reading, studying, and learning by doing.
When you’re just starting, it might be hard to know where to get the right kind of information about investing. Nowadays, the problem isn’t a scarcity of information, it’s information overload.
While there’s an endless supply of information on different social media platforms, I would strongly suggest starting with traditional books.
Of course, there are a lot of books out there, which is why it can be difficult for a beginner to decide what to read. To help out, I wrote a piece about the best finance books for beginners to get you started!
If you start to feel overwhelmed or have no idea where to start, you can always consult a financial advisor.
I believe your success in investing is mostly determined by our psychological factors, which is why it doesn’t do you much good to just learn theory.
It’s important to see how you react to market movements, the first couple of years will tell you what kind of an investor you actually are. Some are more inclined to pick their stocks while others feel more comfortable investing in funds. These things you only find out by doing.
Start Investing Slowly
The biggest mistakes are often made during the first years of investing.
Since investing is a long-term game, you should start small and only invest what you can afford to lose. Especially if you invest in individual stocks.
I would also avoid making considerably risky investments. While some people may have a high risk tolerance right from the start, they might still underestimate the risk they’re taking and end up losing money.
It’s also worth remembering that while there are a lot of different investment opportunities out there, there really is no reliable way of getting rich overnight. It’s like the old saying goes: if it’s too good to be true, it probably is.
You won’t be missing anything in the long run even if you didn’t go all in at the beginning, but you can save a lot of trouble when you don’t lose money while you learn.
During the first year or two, you’ll also find out how you react to market movements. If you end up selling your investments right after they have gone down, you might want to consider whether you’re taking too much risk or have otherwise unsuitable investments.
The important thing to realize is that we all react to losses in the same way. When your investments aren’t doing so well, the first reaction is incurable sadness, doubt, and the urge to sell the “losing” stock or fund and look for something better.
The problem here is that you have no guarantees that the new investment is going to perform any better, and you always pay transaction fees for your trades.
Also, statistically speaking, the buy-and-hold strategy tends to work better than constant trading for better profits. Especially if you’re a fund investor.
Analyze and Adjust
The hardest part of investing (for me at least) is honesty.
It can be extremely difficult to look back at your own decisions objectively and analyze what has gone well and what can be improved.
One of the most useful tools to improve your investing is to keep track of your transactions and see what has gone according to plan and what hasn’t. Achieving good investing habits usually requires quite a bit of work.
When I first started tracking my behaviour I found out that I was making a lot more trades than I had planned. While my biggest investments were and have been long-term investments, I had a lot of smaller short-term transactions that made no sense whatsoever.
For example, I remember purchasing a certain turnaround company that would hopefully turn out great in a couple of years.
So, what did I do? I owned it for about six months, sold it at a loss, and bought another company instead. Can you guess what happened after that? Yeah, the same thing. Again.
The weird part was that I only remembered the first one or two transactions, the rest I had completely forgotten.
After I realized I was being a complete idiot I examined what went wrong and adjusted my behaviour. I started to analyze companies more thoroughly, stopped chasing extra returns by trading back and forth, and only sold a company if there was something that has fundamentally changed.
I also waited longer to buy stock so I wouldn’t make rushed decisions. If it was indeed a great investment, it would be a great investment six months later.
The key lesson here is that it’s best to start tracking your behaviour immediately and make regular check-ups to ensure you’ve stayed on the right track.
In the end, it’s time spent in the stock market, learning from your mistakes, and constantly improving your strategy that makes an investor.
Although there are numerous different investment strategies and ways of successful investing, the most important thing is to start!
