How to Make Money In Stocks

by Patrik Own

Investing in stocks is a pathway to making money and security, but navigating the complexities of the stock market can be daunting, especially for beginners. Amidst a sea of strategies and advice, finding a reliable approach is essential. In this guide, we’ll explore proven methods for making money in stocks, focusing on timeless principles endorsed by seasoned investors like Warren Buffett. By understanding the fundamentals and adopting a patient, long-term perspective, you can set yourself on the path to success in the stock market.

The Strategy of Buy and Hold for Stocks:

But what exactly does that mean? Essentially, it advocates for a buy-and-hold approach, where investors retain stocks or other securities for extended periods rather than frequently buying and selling, known as trading.

This approach is significant because investors who engage in frequent trading often miss out on opportunities for significant annual returns. Need proof?

Consider this: According to Putnam Investments, the stock market delivered an annual return of 9.9% to those who remained consistently invested over the 15 years leading up to 2017. Conversely, those who engaged in market timing risked missing out on these returns.

For instance:

• Investors who missed just the 10 best days during that period experienced an annual return of only 5%.
• The annual return dropped to a mere 2% for those who missed the 20 best days.
• Missing the 30 best days resulted in an average annual loss of -0.4%.

Evidently, being absent from the market during its peak days significantly diminishes potential returns. While it may seem logical to ensure being invested during these days, predicting when they occur is impractical, and strong performance often follows periods of market volatility.

This implies that committing to long-term investment is essential to capitalize on the stock market’s peak performance. Embracing a buy-and-hold strategy facilitates this objective. Additionally, this approach can be advantageous during tax season, potentially leading to lower capital gains taxes.

For Step by Step Guide Also Read : How to Invest in Stocks

Choose Index Funds

Consider opting for index funds when venturing into stock investments. Unlike buying individual stocks, index funds consist of numerous stocks that replicate a market index such as the S&P 500. This means you can succeed without an in-depth knowledge of individual companies.

Index funds offer the advantage of diversification, spreading your investment across many stocks at once, reducing the impact of any single stock’s poor performance. For instance, if one of your three invested companies goes out of business, it could significantly affect your portfolio, but if you’re invested in 500 companies through an index fund, the impact is likely to be minimal.

While investing in individual stocks may offer the potential for higher returns, it requires substantial research and entails a higher risk of losses. In contrast, index funds provide a simpler and more diversified approach to stock market investing, potentially offering steady returns over time.

Navigating the stock market as a beginner can be daunting, but focusing on stability, reliability, and steady growth is key. Rushing into risky stocks for quick gains is often counterproductive; instead, opt for a patient, long-term investment strategy. Here are some types of stocks well-suited for beginners:

1. Blue Chips: These are shares of established companies known for consistent performance and stability, often listed in major indexes like the Dow Jones Industrial Average or the S&P 500.
2. Dividend Stocks: Companies that regularly pay dividends offer investors a reliable income stream. Reinvesting dividends allows for compounded returns over time.
3. Growth Stocks: While riskier, growth stocks have the potential for significant returns, especially in industries like technology or healthcare. Be mindful of associated risks.
4. Defensive Stocks: These stocks belong to industries that typically perform well even in economic downturns, providing stability during market volatility. Examples include utilities, healthcare, and consumer goods.
5. ETFs (Exchange-Traded Funds): ETFs track indexes or sectors, offering a cost-effective way to diversify your portfolio. They provide instant diversification and can mitigate risks associated with individual stocks. Consider ETFs aligned with your investment goals or those tracking market indexes like the S&P 500.

Reinvesting Your Dividends

Many companies distribute dividends to their shareholders—a periodic payment based on their earnings.

While the individual dividend payments may initially seem insignificant, especially for novice investors, they play a significant role in the stock market’s historical growth. For instance, NYSE has delivered approximately 12% returns since its inception, but when dividends were reinvested, this figure surged to nearly 16%. This boost occurs because each reinvested dividend enables the purchase of additional shares, thereby accelerating the compounding of earnings.

This accelerated compounding is why many financial advisors recommend that long-term investors reinvest their dividends instead of spending them upon receipt. Most brokerage firms offer the option to automatically reinvest dividends through a dividend reinvestment program, or DRIP.[2]

A dividend reinvestment plan (DRIP or DRP) is a program provided by companies to their shareholders, enabling them to automatically reinvest their cash dividends into additional shares of the company on the dividend payment date. These plans usually incur no commission fees and often provide shareholders with a discount on the current share price when reinvesting their dividends.

Choosing the Right Investment Account

While selecting specific investments is undoubtedly critical for long-term investing success, the type of account in which you hold them is equally significant.

After establishing your investment objectives, risk tolerance, and desired level of engagement in the investment process, the next step involves selecting the appropriate account type to facilitate your stock market investments. Each account category presents unique features, advantages, and limitations. Here’s an overview of the most prevalent options:

Retirement Accounts:

Employer-Sponsored Retirement Plans: Many workplaces provide retirement schemes like 401(k)s, 403(b)s, or 457 plans. These plans enable automatic deductions from your salary, often paired with employer contributions, while facilitating tax-deferred growth of your account balance.

Individual Retirement Accounts (IRAs): Traditional IRAs allow for tax-deductible contributions, whereas Roth IRAs offer tax-free withdrawals during retirement.[2]

Taxable Brokerage Accounts:

Individual Brokerage Accounts: These are standard accounts opened by individuals, affording complete control over investments and accountability for tax implications.

Joint Brokerage Accounts: Shared among multiple individuals, typically spouses or partners, these accounts may include survivorship rights.

Managed Accounts: Professionally managed portfolios tailored to your specific requirements and investment preferences.

Accounts for Specialized Objectives:

Dividend Reinvestment Plan Accounts: Automatically reinvest dividends into new shares without incurring commissions.

Education Savings Accounts: Offer tax benefits for educational expenditures.[3]

Health Savings Accounts: Contributions are tax-deductible, and withdrawals for medical purposes are tax-exempt.[4]

Trust and Custody Accounts: Administered by a trustee or custodian in accordance with predetermined terms, often designated for minors or beneficiaries.

For Step by Step Guide Also Read : How to Invest in Stocks

The Bottom Line

Making money in stocks doesn’t require constant speculation on short-term movements of individual companies’ stocks. Even renowned investors like Warren Buffett advocate for investing in low-cost index funds and holding onto them for extended periods until needed.

The tried-and-true formula for successful investing may seem mundane: exercising patience with diversified investments, such as index funds, which are poised to yield returns over the long haul, rather than chasing after the latest market trends.