Investing for Beginners: A Strategic Guide to Start Investing

Investing is a daunting subject for beginners given the roller coaster that markets have been on and the plethora of complicated terms encountered. However, recent breakthroughs such as the widespread elimination of trading commissions and the proliferation of investing literature across the internet has made investing much more accessible for everyone.

We at InvestorRoyale believe that investing is a key to building wealth that should be accessible to all who are willing to take the time to learn about its basic precepts. Regardless of whether you only have $1,000 to invest or $100,000, anyone who’s willing to learn and commit the capital can and should partake in the financial markets that represent the foundation of our global economy. We cover the basics of how to start investing for beginners, the most common tools in your arsenal, and mistakes to avoid when starting out.

Why is it Important to Invest?

Investing not only allows you to preserve the value of your assets, but grow the value of those assets passively over time through the magic of compounding. In fact, if you had invested $5,000 in 2011 and kept that money invested in the S&P 500 at an average return of 10% per year, you would have $12,969 in 2021, more than double your original buy-in. 

Let’s now observe the counter-example, if you had kept the same $5,000 sitting in a checking account in 2011. The buying power of that $5,000 would be significantly eroded today due to a devious little fiend known as inflation. In fact, you would need $5,753 in 2021 to match the buying power of $5,000 in 2011 at a cumulative inflation rate of 15.1%. Not only would you have foregone any interest earned on that money over that period, but the value of the cash you kept under your mattress would’ve eroded by approximately 15.1%. 

Most Americans would much rather double their money in ten years than see the value of that money sapped to a fraction of its former worth. There’s plenty of good reasons to invest through good times and bad, and this can include everything from earning additional side income to saving for a long-term goal. The key is to keep inflation at bay and let the magic of compounding work for you.

What Kind of Investor Are You?

When starting out as a beginner investor, you’ll want to accurately gauge what kind of commitment you can make when it comes to your investments. This will help determine what kind of approach you want to take to investing as well as what type of investment account you should get.

Generally speaking, there’s no one right way to approach investing, you’ll want to ask yourself how much time and effort you’re willing to dedicate towards learning, monitoring, and managing your investments. Most people fall somewhere along the spectrum between passive investors, who prefer set-it-and-quit-it strategies, and active investors who prefer hands-on strategies that require them to monitor their portfolios daily and swap into/out of positions based on their views of the market and the fundamentals of the underlying investment.

Regardless of your individual philosophy on investing, most brokerage accounts will offer you access to the broad universe of investments out there, and allow you to buy stocks, bonds and mutual funds to your heart’s content. While by no means an exhaustive list, we cover which accounts might be the best fit for you based on your investing habits below.

  • I want someone to handle the investing for me 
  • I’m a passive investor who leaves the stock picking to others
  • I’m an active investor who wants full control over my portfolio

I Want Someone to Handle All the Investing for Me

Recommended Accounts: Robo-Advisor, Financial Advisor

If you’re someone who doesn’t have the time, experience or interest to manage your investments on a regular basis, an automated robo-advisor may be a good option for you. Robo-Advisors are a good way for beginner investors to obtain a tailored portfolio based on your profile, goals and needs at a relatively low cost. 

Alternatively, if you’re someone who has a large amount of cash to invest out the gate (typically, $100,000 or more), you may want to consider hiring a professional financial advisor. While professional financial advisors are generally more expensive than Robo-Advisors, they go beyond simple portfolio management and offer bespoke financial planning services that can be tailored to any situation or life goal. These generally involve live consultations with professionals. Expect to encounter minimum asset requirements and varying fee structures with professional financial advisors.

Robo-Advisor

Cost: Low
Examples: Betterment, Schwab Intelligent Portfolios, Wealthfront

Robo-Advisors take the guesswork out of investing and automatically build portfolios based on a combination of built-in algorithms and questionnaires of your psychological profile, goals, and risk tolerance as an investor. The best part is that these portfolios will automatically rebalance and adjust their allocations over time. 

They offer a low maintenance approach to investing in exchange for a modest advisory fee (typically ranging from around 0.15% – 0.75%) of your account value that’s charged on an annual basis. 

Robo-Advisors are offered through almost every major brokerage house as well as a number of specialty shops, including SoFi and Betterment. Keep in mind that most Robo-Advisors will charge this advisory fee on top of the expense ratios of any underlying investments purchased on your behalf, which might make them more expensive than an equivalent target date fund.

Financial Advisor

Cost: High (Varies)
Examples: Facet Wealth, Fisher Investments, Vanguard Personal Advisors

Financial Advisors offer a full service financial planning experience that goes beyond just investment management, bundling in additional services like financial planning, tax optimization and even estate planning services and more. 

Fee structures for financial advisors vary and can range from fixed annual retainers to percentage of assets under management, hourly fees and even fees for performance. In almost every case, professional financial advisors will cost you more than Robo-Advisors, so these generally make more sense for individuals with larger amounts of investable assets that require a more nuanced approach (think hundreds of thousands to millions of dollars).

While there are dozens of major Financial Advisory firms available nationwide, including Fisher Investments, Personal Capital, and Vanguard Personal Advisors, there are also a bevy of regional financial advisors that specialize within specific localities. It’s a good idea to evaluate the available roster of financial advisors near you alongside the backdrop of nationally available advisors to get the widest selection. Make sure you have a good understanding of their fee structure, services offered, and investment philosophy when choosing a financial advisor.

I’m a passive investor who leaves the stock picking to others

Recommended Investments: Mutual Funds, Index Funds, ETFs

Passive investors looking for a low maintenance option that costs less than a Robo-Advisor, in exchange for a little more upfront work, would do well in buying a diversified portfolio of Mutual Funds, ETFs and Index Funds. All of these options have variations to their makeup, but at their core, function as low-cost ways to get wide-market exposure to a diverse roster of stocks, bonds, and even commodities.  

At a minimum you’ll need a brokerage account to get started, but once you get one setup, you’ll be able to buy a variety of different funds and ETFs either from the broker’s recommended collection or choose from those offered by other companies. The key advantage of this method over Robo-Advisors is that you’ll get more say over how you allocate your investments and avoid any incremental account advisory fees that could have sapped at your returns.

Mutual Funds

Cost: Low to Moderate (Varies)
Examples: Vanguard Wellesley Income (VWINX), PIMCO Long-Term Credit Bond Fund (PTCIX)

Purchased through your brokerage account, mutual funds are funds where shareholders collectively own a basket of investments and benefit from their overall performance. While an index fund is a specific type of mutual fund (covered below) that seeks to replicate market performance, there also exist actively-managed mutual funds staffed by professional money managers who seek to outperform a market. 

Typically, the main expense you’ll need to worry about is each fund’s respective expense ratio, which is the fund’s charge to keep your cash invested and covers regular upkeep for the fund. Expense ratios and fees can range anywhere from 0.04% for some index funds to as high as 2.6% for funds with more specialized strategies. Generally speaking, the more complex the underlying fund strategy, the higher the expense ratio.

You can purchase both actively managed and passively managed mutual funds through your standard discount brokerage account, 401K plan, IRA account or any account type that typically allows you to buy and hold investments. There are literally thousands of mutual funds out there, each with its own unique strategy, tilt, and philosophy on investing. You can research the most popular ones online or by using your online broker’s “screener” tool.

Index Funds

Cost: Low (Varies)
Examples: Vanguard 500 Index Fund Investor Shares (VFINX), Schwab Total Stock Market Index (SWTSX)

Index funds are a subset of mutual funds that are designed to replicate the performance of a specific market index. For U.S. domestic stocks, these include, but aren’t limited to, the S&P, the Dow Jones Industrial Average, Russell 2000 and the Nasdaq. There exists a multitude of index funds that replicate the performance of many asset classes. 

The benefit of index funds is that they offer the greatest levels of diversification at the lowest overall cost. Total market index funds can be had for expense ratios of as little as 0.05%.

Pro Tip: Mismatches Between an Index Fund and the Actual Market 
Keep in mind that even though an index fund is designed to replicate its underlying market index, the fund’s performance will always trail the actual market by a few basis points; this is due to expense ratios and the logistical and mathematical challenges of perfectly replicating an index. 

Many of the major brokerage companies offer their own brand of index funds. Their performance is likely to be extremely similar regardless of which company you end up going with, however your online broker may offer benefits, like no minimum investment amounts, when buying their branded funds.

Exchange Traded Funds (ETFs)

Cost: Low (Varies)
Examples: SPDR S&P500 ETF (SPY), iShares MSCI Emerging Markets ETF (EEM)

ETFs can also be purchased through your brokerage account and fulfill a similar function to mutual funds and index funds. ETFs offer more trading flexibility than mutual funds and have a share price that trades actively on the market like stocks and bonds. While you’ll generally need to wait until the end of the trading day to acquire shares in a mutual fund, you can buy ETFs whenever the market is open for trading. 

Across similar products, ETFs are less expensive than mutual funds because they tend to follow passive strategies, similar to index funds. Another key benefit to ETFs is that they are purchased by the share, so beginner investors and those with fewer funds to commit don’t have to contend with the minimum investment amounts that are required by most mutual funds.

There are over a thousand ETF products on the market, and many are offered as commission-free ETFs through major discount brokerage companies, like Charles Schwab or Fidelity.

I’m an Active Investor Who Wants Full Control Over my Portfolio

Whether you’re a budding active trader who wants to develop their skills, or someone who just wants to try their hand at the wild west game of day trading, a discount brokerage account is the tool you’ll need to begin your journey. Although required for any serious investor, discount brokerage accounts are especially important for budding active investors; they’re the core platform from which all of your trades are launched.

If you’re thinking of trading the standard fare of stocks, bonds, mutual funds and ETFs, almost any brokerage account should meet your needs. However, where you’ll want to be discerning is if you’re interested in trading options, using leverage, or require advanced research capabilities. 

These fall into the realm of tools for advanced traders. Different brokerage accounts feature their own fees and policies when it comes to accessing advanced features. 

It’s a good idea to thoroughly review each broker’s fee schedule and list of permitted investments prior to picking the right account. These will play a major factor in both your lifetime trading costs as well as decide whether you’ll have access to flashier and more advanced trading capabilities.

Discount Brokerages

Cost: Low (Varies)
Examples: TD Ameritrade, E-Trade, Fidelity

Discount brokerage accounts are the lowest cost option around relative to Robo-Advisors and Full-Service Financial Advisors. Unlike Robo-Advisors, discount brokerage accounts require no annual advisory fees, but in exchange offer little tactical advice for managing your portfolio. Discount brokerage accounts leave all of the investing, allocations, and rebalancing decisions in your hands. 

Don’t let that discourage you since, with a little extra footwork upfront, you can still replicate many of the popular passive investing strategies out there by purchasing one or more passive index funds, ETFs, and retirement date funds.  

The perks of Discount Brokerage accounts over Robo-Advisors come in the form of cost savings and flexibility. You’ll likely save a quarter percent on advisory fees, or more, every year, which can preserve a significant portion of your returns that also compounds in size as your portfolio continues to grow. 

Additionally, as the go-to investment account for most investors, discount brokerage accounts are used by both beginners and seasoned veterans. These accounts grow with you and give you the flexibility to try other investments/strategies as you gain more experience and confidence as a beginner investor.

Discount Brokerage accounts are offered by almost all of the big investment shops, including Charles Schwab, E-Trade, TD-Ameritrade, Fidelity, and Vanguard as well as many banks and credit unions nationwide. Generally speaking, these accounts don’t require much in the way of minimum deposits, and maintenance fees are generally avoidable.

Pro Tip: Robinhood is Not Your Only Option
While Robinhood is known for “democratizing” retail investing through the elimination of trading commissions, keep in mind that most of the big brokerage shops, including Charles Schwab, Fidelity, E-Trade and TD Ameritrade all cut their trading commissions in late 2019. While there is little tactical advantage to using Robinhood, they do offer a sweet user interface and investing app.

When Should You Start Investing? Setting Goals and Time Horizons

There’s no right or wrong market for starting to invest; studies have essentially proved that time spent invested in the market is more important than timing when to invest. It’s the single biggest factor when determining someone’s lifetime investment return. 

In fact, in a study from Fidelity, missing the 5 best days of growth over a 20 year investing period can lead to you underperforming the overall market by as much as -38%, this number jumps to as high as -93% underperformance by missing the 50 best days over that same period.

While it may be tempting to sit out a market that looks hot and wait for what seems to be an inevitable dip, there’s no telling how long a bull run might last. The current bull market spans over 11 years, and is arguably the longest bull market run in history. By contrast, the shortest bull market lasted a little over a month. It’s extremely difficult to accurately (and consistently) forecast market crashes over time, as the market itself is a difficult animal to tame.

So what’s an average investor to do if they’re worried the market’s overvalued and they don’t have access to a time-traveling Delorean and an investor’s almanac? The time-tested tactic for both fledgling and veteran investors is to take a long-term perspective to investing. 

It’s a good idea to set goals and time horizons for your portfolio(s) that match the purpose of the underlying funds. This ties into the concept of investment suitability, time horizon, and risk management. We dive into these concepts below.

How Should I Set Investor Goals?

To properly assess what kind of risk tolerance you have, you should have a goal and understand to what purpose you’re investing. Is this going to be something that is absolutely crucial to you in the next few years, for example funding someone’s tuition or buying a house? In that case, you may be less comfortable with volatility in your portfolio and potential short-term losses in value. 

Let the purpose of a specific portfolio and the urgency of that goal dictate how much risk you’re willing to take with your investments. This method is known as goal-based investing and is one of the most widely used strategies used by financial advisors across the country.

How Long Should My Investing Time Horizon Be?

A time horizon is how long an investor has to achieve a given goal before needing to cash out. Alongside the required probability of achieving a goal, your time horizon will have a major impact on how your portfolio should be allocated.

If you’re relatively young and are investing for retirement, you may be more comfortable with more speculative investments that have the potential to pay off over the long run. While risky, these have the potential to pay off handsomely, while giving you a much longer time horizon to make up for any short-term losses in value.

Conversely, if you’re older and have multiple financial obligations like a mortgage, saving for your children’s college education, or helping to cover the cost of a parent’s healthcare, you may have less leeway to take risk, and substantial short-term losses may have a material negative impact on your quality of life. You’ll also have less time to make up for those short-term losses over time.

Example

Goals-Based Investing and Time Horizon

Consider the following investment accounts of a single, 30-year old accountant.

Individual Retirement Account (IRA)
Goal: Retirement
Time Horizon: ~35 years

Discount Brokerage Account
Goal: Down Payment for Home Purchase
Time Horizon: ~5 years

The portfolios above have different end goals that will occur at markedly different points on this investor’s time horizon. While they’re both important goals that require a high probability of completion. The individual can afford to take more risk with their IRA due to its long time horizon (e.g. they have more time before they need to retire than when they need to buy a home). 

If the retirement account were to suffer any short-term loss in value within the next five years, the investor would have plenty of time to make up that loss and still meet their goal. They can choose to leave the portfolio alone or even buy more investments capitalize on the short-term discount. Either way, the portfolio has over 30 years to recover and grow, making this a remote concern for someone of good health at 30 years of age.

Conversely, if the discount brokerage account suffers a short-term drop in value. This may pose an issue for the investor if they intend to buy a house within the next few years and don’t have much in the way of additional funds to contribute to a down payment on a home. A significant short-term loss may force this investor to continue renting for a few years to make up for those losses. They may need to push back their target date for a home purchase, which may or may not be an acceptable risk depending on their priorities and as a result, may wish to position this portfolio more conservatively.

In either case, you may just get lucky and continue to ride a bull market for the next few years without incident and have excess earnings to enjoy for years to come. However, you may just as easily come face to face with an extended downturn. 

The key takeaway here is that both the necessity and time horizon of your investing goal should be taken into account when deciding how to allocate your portfolio. This is a useful framework for managing risk when considering how aggressively or conservatively to invest your portfolio.

How Do I Start Investing With Little Money? Dollar Cost Averaging

You don’t need much money to start building a proper investment portfolio. Thanks to cheap index funds and ETFs, it’s not difficult to begin building a well-diversified portfolio with only a few hundred dollars. While your portfolio may start small, it’s a good idea to grow it little-by-little over time through a process called dollar-cost averaging

Dollar cost averaging is the act of investing and building up your position regularly over time, regardless of whether the price of the investment goes up or down. It’s intended to mitigate the negative impact from poorly timing the market, as most average investors are wont to do.

In theory, dollar cost averaging into an investment will give you an advantageous average price per share for the investment while mitigating the likelihood of buying a security when it’s at its peak. It also allows an investor to continually acquire shares at a discount if that investment stays cheap for an extended period.

It’s fairly easy for beginners to implement dollar cost averaging. Simply conduct a thorough evaluation of your monthly budget and figure out what you can afford to invest into the stock market every month. Once you’ve arrived at a comfortable figure for you to commit to, begin committing that same amount into your portfolio every month, regardless of whether the market rises or falls. When done on a disciplined basis, it’s a great way to build wealth over time.

Investing Mistakes to Avoid and Things to Watch Out for

The most common investing mistakes can be avoided by committing to a regimented investment plan (like dollar cost averaging) and keeping a long-run perspective. If you keep the following lessons to heart, you’ll be able to guard against some of the temptations that trip up most beginner investors.

Invest for the Long Run

If you’re investing for the long term, you can afford the short-term ebbs and flows in your portfolio that come with day-to-day volatility. As a beginner investor, avoid the habit of constantly checking your portfolio on a daily basis, as this can lead to knee-jerk reactions that can quickly derail your long-term strategy. 

The long-term portfolio perspective requires both self-restraint and patience. If you remain disciplined and keep your return expectations realistic, you’re more likely to achieve a better long-run average return.

Avoid Concentrated Positions Early On

While it may be tempting to purchase a large stake in a hot new stock that the headlines are advertising, doing so may subject your portfolio to unnecessary risk and often ends up with you buying an investment that’s not worth its price, or may have greater downside than anticipated. Many times, you may find yourself buying at a price peak when wall-street reporters are hyping it up most. 

Headlines are printed on a daily basis and can take both the bull and bear sides of a story. In reality, by the time most people see the headline on the stock, if it truly is a good opportunity, other market participants have already largely eroded its value; if it’s a dud, well, the portfolio losses (as well as gains) belong to you and not the reporters who published those reports.

As a beginner investor, start by establishing a core portfolio of funds set up across both stocks and bonds. This will form the core of your portfolio and allow you to benefit from the overall market performance while mitigating risk. Consider limiting your portfolio to no more than 5% of a single concentrated stock position. While you may benefit largely from buying a single concentrated position, it’s extremely difficult to do this on a consistent basis and most beginner investors end up underperforming the market when it comes to picking winners/losers.

Fight the Urge to react

Right out the gate, you’ll face temptations to buy and sell positions based on your friend’s opinions, headlines in the financial news, or even tips from alleged stock gurus. While gut feelings may help you avoid trouble in real life, in the investing world they’re more liable to harm you than help you. Behavioral finance studies have proven that investors as a whole have a poor track record when it comes to timing the market, and often sell their positions when they reach their lows and buy investments when they’ve hit their highs.

While this behavior goes directly against the traditional wisdom of “buy low, sell high,” you’d be surprised to learn that this is how the majority of retail traders behave during times of increased volatility. 

It takes some practice, but understand that the green and red numbers on your stock tickers are “unrealized,” meaning they’re likely to fluctuate in any given month. These unrealized gains/losses are temporary in nature, however if you sell at an inopportune time, you may turn these losses into a “realized” loss. 

Fight the urge to sell when the market takes a big dip to ensure you avoid turning “unrealized” losses into realized losses. Exercise discipline at all times, and fight the urge to react, especially when things are at their craziest. Having a well-established investment strategy and a long-term perspective are excellent bulwarks against nervous trigger fingers in the market.

Next Steps for Beginner Investors

Armed with a brokerage account, a clear understanding of your goals and time horizon, and a viable strategy to implement, you’re ready to get started investing as a beginner. It’s not a bad idea to start building a core portfolio of ETFs, index funds, and mutual funds across multiple asset classes to set up a well-diversified base. 

Once you’ve got your core portfolio established, work on building it up over time. After a while, you can then start taking baby steps to learning about other investment types and experimenting with new approaches while properly managing for risk.

Investing is a life-long learning experience, don’t be afraid to approach it with an open mind after you’ve gotten your basics locked down. Just remember never to bite off more than you can chew.