A rising stock market is often the reason for buying stocks, while a falling stock market scares some people away. Neither reason is valid for starting to invest – or for stopping.
October 20, 2022
A rising stock market is often the reason for buying stocks, while a falling stock market scares some people away. Neither reason is valid for starting to invest – or for stopping.
Those who have lived through the stock market’s up and down cycles have learned that “time in the market” is key and can produce rewarding returns, while “timing the market” by trying to calculate the right time to buy and sell is a fool’s errand.
When depreciated share prices abound, opportunity is ripe for individuals who have been meaning to learn about stocks to become better investors. But highly valued share prices shouldn’t be a deterrent, since they can continue to increase in value over the long term.
Access to the stock market has never been quicker or simpler.
A variety of smartphone apps allow consumers to quickly get started. “Microinvesting” is a term conceived to cover the deployment of small amounts of cash. In addition, most brokerages operate online websites with copious opportunities for instruction.
Newcomers or those who have dabbled in stocks (or “equities,” as pros call them) ought to pause to consider their financial goals before committing to invest. Depositing money in a bank savings account offers safety, convenience and a relatively low interest rate. At the current rates, decades would pass before $100 would be worth $200. Not the best way to generate funds to pay for a college education or retirement.
If the purpose of investing is to grow a small nest egg into a large one, the current interest rates paid by banks won’t come close to doing the trick. Buying cryptocurrencies or fractional shares of volatile stocks that started life as special purpose acquisition companies (SPACs) might score a quick win, but more likely you’ll lose all or some of your money.
The best opportunity for long term growth remains the stock market, with an emphasis on established, good quality companies – a sound piece of advice that brings with it several stipulations and qualifiers.
The evidence for this opinion is remarkable: over the past 50 years, the compound annualized growth rate (CAGR) for the stock market (meaning all stocks) has been nearly 11%, including dividends paid. Which means that $100 invested wisely in the stock market could well grow to $200 or more in about seven years, assuming the average 11% CAGR during that period.
What are the mysterious “stipulations and qualifiers”? The first is to ignore the general direction of the market at any given time. Sure, buying low and selling high is ubiquitous conventional wisdom, though more or less pointless for long-term investors: Trying to guess whether a rising market will keep rising or whether a falling market will keep plunging has proven to be a fool’s game. A much better idea is to keep in mind the long-term trend over recent decades of major stock market indices such as the Dow Jones Industrial Average, the S&P 500 and the Nasdaq Composite – all three of which over years and decades have risen. Identifying companies in those indexes that are leaders in their respective industries and exemplify excellence in management can make for solid investments and lead to fruitful outcomes.
Remember this: don’t try to time the market. Instead, spend time in the market.
Spending time in the market naturally helps avoid trying to time the market and enables investors to make consistent, regular purchases of common shares regardless of what the overall market is doing. By investing a consistent amount of money into a company’s stock over time, $50 a month let’s say, investors assure themselves of buying shares at advantageous prices, assuming the stock increases in price over time. This technique, called dollar cost averaging, is easier than ever to carry out, even for those stocks selling for relatively high per share amounts. As purchasing fractional shares of a stock is common practice, dollar-cost averaging with even small amounts of money makes entry into investing in the stock market easier than ever.
A second key stipulation to successful investing is diversification.
A good option is to begin a regimen of establishing a portfolio of 10 to 20 high-quality companies. Do this using a long term, fundamental approach that focusses on investing in a variety of different size companies in varying sectors and industries. This will provide sufficient diversification in your portfolio. (If you’re already managing a portfolio of stocks, you may want to add to your portfolio.) Another method of diversification is to invest in a mutual fund or ETF (exchange-traded fund) based on indices like the S&P 500 – meaning that your investment will be divided proportionately into small investments in the stocks held by the fund or those comprising the index.
Selecting individual companies should be an exercise in choosing high-quality growth stocks that have a record of consistent growth in revenue, profit and, if relevant, dividend payment.
Look for growth rates that outpace the competition and are faster than inflation or the overall economy. Understanding when such stocks are selling at a favorable price is key. To know more about the methodology of recognizing high-quality growth companies and what constitutes a reasonable price, please explore the BetterInvesting website for an explanation of online analytic tools and how to access instructional videos.
Remember, some companies will pay dividends and automatically reinvest them, upon request, into additional shares of stock. Some companies use their profit to grow their sales or operations rather than to distribute dividends. Investors should understand the difference. It is important to reinvest all distributions, dividends and capital gains from successful stock sales, into additionalstock purchases. This is of critical importance for investors who want to take full advantage of compounding - every investor’s friend!
