How to get started investing in the stock market

Unless you’ve been liv­ing under a rock, you’ve prob­a­bly heard about the stock mar­ket. In this post, I want to show you the dif­fer­ent ways you can invest in it. I will focus in par­tic­u­lar on ETFs, which I favor in my own port­fo­lio.

There are basi­cal­ly three main ways to invest in the stock mar­ket:

  1. Pick and pur­chase indi­vid­ual stocks.
  2. Invest through active funds.
  3. Invest through ETFs (Exchange Trad­ed Funds) and Track­ers.

Why should I invest in the stock market?

Because past long-term per­for­mance has been pret­ty good.

I can already hear you say­ing the famous phrase “Past per­for­mance does­n’t pre­dict future per­for­mance”. And this is def­i­nite­ly true in the short term (~10 years), but in the longer term (~25 years) we can start see­ing some inter­est­ing pat­terns.

A Forbes arti­cle shows that if you pick any 25-year rolling peri­od from 1925 to 2011 and com­pare stocks (track­ing the S&P 500 index) to bonds, stocks win in per­for­mance every time 1. Besides, from 1802 to 2002, the stock mar­ket aver­age com­pound infla­tion-adjust­ed rate of return has been 6,8%.

A 6.8% annu­al rate of return means that if all div­i­dends are rein­vest­ed, the pur­chas­ing pow­er of stocks has dou­bled, on aver­age, every ten years over the past two cen­turies.” His­tor­i­cal Record Of Stocks And Bonds, Investo­pe­dia

Thanks to com­pound inter­est, a long-term invest­ment increas­es in val­ue enor­mous­ly.

The risk of investing and not investing in the stock market

Of course, there are risks. Indi­vid­ual shares can quick­ly lose 50% of their val­ue, and even the mar­ket as a whole can lose more than 50% of its val­ue.
But hey, not invest­ing is a risk too. If infla­tion is high­er than the inter­est on your sav­ings account, you are basi­cal­ly los­ing pur­chase pow­er every year.

How to invest in stocks

There are many ways of invest­ing and all of them have their advan­tages and dis­ad­van­tages.

Pick and buy stocks individually

There are many ways to invest in the stock mar­ket direct­ly: dai­ly trad­ing, trad­ing based on “indi­ca­tors”, long-term invest­ment by review­ing annu­al reports, medi­um/­long-term invest­ment using algo­rithms, etc. The sub­ject is vast.

I am not a fan of dai­ly trad­ing, main­ly because it requires a lot of time, atten­tion and exper­tise. Also, who wants to spend every day in front of the screen look­ing at stocks going up and down? Not me! Let’s take a look at the oth­er types of invest­ments:

  • Invest­ing in com­pa­nies that are tru­ly dis­con­nect­ed from their intrin­sic val­ue. This is called “val­ue” or “deep val­ue” invest­ment. But for this to work, you have to choose shares that are not stud­ied by the pro­fes­sion­als who do this all day long… and that you can under­stand (not every­one can read a finan­cial report in Viet­namese). This means that you have to focus on small US com­pa­nies.
  • Invest­ment in qual­i­ty com­pa­nies over the long term, and if pos­si­ble at a fair price. To sim­pli­fy, let’s say it’s the War­ren Buf­fett invest­ment. It is less risky than the pre­vi­ous method, but it requires a min­i­mum of skills.
  • Invest­ment in com­pa­nies with grow­ing div­i­dends. It’s a vari­ant of War­ren Buf­fet­t’s strat­e­gy. It’s suit­able if you like div­i­dends.
  • Invest­ment through algo­rithms, accord­ing to rules that have been aca­d­e­m­i­cal­ly iden­ti­fied. Set­ting up the pro­grams that run the algo­rithms is not an easy task, how­ev­er.
  • Ran­dom invest­ment. It may sound strange, but yes, it works. In 1973, Bur­ton Malkiel, in his book A Ran­dom Walk Through Wall Street, explained that a mon­key choos­ing stocks by throw­ing darts would do as well as the experts.

The advantages of picking individual stocks

  • We are real­ly co-own­ers of the com­pa­ny. We are part of the adven­ture!
  • We are inter­est­ed in the life of com­pa­nies, and there­fore in the econ­o­my, and there­fore in soci­ety.
  • We can select com­pa­nies that we like because we like their prod­ucts or for eth­i­cal rea­sons (or exclude them).

The disadvantages of direct investment

  • Less diver­si­fi­ca­tion.
  • Good luck study­ing hun­dreds if not thou­sands of com­pa­nies in order to find the best to put your mon­ey on!

Invest in the stock market through an active fund

An option if you don’t want or don’t have the time to do your own analy­sis is to del­e­gate it to a pro­fes­sion­al. There are many active funds, each with its own style. The idea of an active fund is that a man­ag­er picks stocks in order to beat the mar­ket.

The advantages of “active” funds for investing in the stock market

  • Diver­si­fi­ca­tion. Funds allow for real diver­si­fi­ca­tion, which great­ly reduces risk. A fund is gen­er­al­ly man­aged by sev­er­al well-trained man­agers. They can review a large num­ber of com­pa­nies around the world and man­age port­fo­lios with dozens or even hun­dreds of stocks.
  • We don’t need to do any­thing!
  • This gives the oppor­tu­ni­ty to do bet­ter than the mar­ket… the­o­ret­i­cal­ly.

The disadvantages of “active” funds

  • It’s not cheap. From Investo­pe­dia 2: “The aver­age expense ratio for active­ly man­aged mutu­al funds is between 0.5% and 1.0% and typ­i­cal­ly goes no high­er than 2.5%, although some fund ratios have gone high­er. For pas­sive index funds, the typ­i­cal ratio is approx­i­mate­ly 0.2%.
  • Some active funds are any­thing but! They’re very close to the index they’re fol­low­ing. So yo’re basi­cal­ly invest­ing in a pas­sive fund with fees.

Invest in passive funds, also known as index funds, trackers or ETFs

These funds can be list­ed on the stock exchange, and are then called ETFs (Exchange Trad­ed Funds) or track­ers. ETFs track the per­for­mance of an index such as the S&P 500 or the FTSE 100.

The advantages of investing in the stock market with index funds and ETFs

  • They’re usu­al­ly cheap. The typ­i­cal expense ratio is 0,2% as we saw above.
  • They fol­low the col­lec­tive intel­li­gence of the mar­ket. They have a per­for­mance of more than 80%-95% of active­ly man­aged funds!
  • You can diver­si­fy eas­i­ly with lit­tle effort.
  • They are very trans­par­ent, we clear­ly know what is in the index it fol­lows. And the ETF man­ag­er can­not change strat­e­gy.
  • There are no entry fees and they are eas­i­ly avail­able in all banks, as they are list­ed on the stock exchange.
  • No need to be a finan­cial expert.

The disadvantages of investing in ETFs and Trackers

  • Less choice than with active funds. “As of 2015, the num­ber of exchange-trad­ed funds world­wide is over 4000” 3. Even so, there are few­er choic­es than with active funds. Not that more choice nec­es­sar­i­ly means bet­ter. But hey, why not? If you want to find a super spe­cif­ic niche, you might only be able to do it with an active fund.
  • We can’t exclude com­pa­nies we don’t like
  • We don’t own the com­pa­nies direct­ly.
  • In short, yes, it is less inter­est­ing than direct invest­ment, and more­over, we do not have the hope of hav­ing a crazy per­for­mance! It’s a lit­tle bor­ing.

Conclusion: how to invest well in the stock market?

It seems to me that invest­ing in an ETF port­fo­lio is what pro­vides the best risk/return ratio over time.

Indi­vid­ual stock pick­ing is intel­lec­tu­al more chal­leng­ing and inter­est­ing, but it requires you to edu­cate your­self and to spend time on it in order to avoid mis­takes.

There are many books on the sub­ject, but I would sug­gest that you start with Ben­jamin Gra­ham’s “Intel­li­gent Investor”. It’s not the eas­i­est book, but if you can’t even get through it, then maybe you should­n’t be pick­ing stocks.

Some­times we want to put our trust in a man­ag­er because we find him inspir­ing or we believe in him. Also, some­times, as there are many more active funds than ETFs, we have to go through active funds.

How­ev­er, choos­ing a good fund is not easy. I am talk­ing about funds that will out­per­form in the future and not funds that have out­per­formed in the past.

For me, there’s only one seri­ous option for the long-term investor, and that is ETFs.

Recommendation for investing successfully

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  1. https://www.forbes.com/sites/investor/2012/05/08/why-stocks-are-still-the-best-long-term-investment/#5e0db7701c42
  2. https://www.investopedia.com/ask/answers/032715/when-expense-ratio-considered-high-and-when-it-considered-low.asp
  3. https://www.statista.com/statistics/278249/global-number-of-etfs/

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