Investing In The Stock Market

While a lot of people are afraid of stock market investing today, many people are just now getting started. Whether you are new to investing or have been investing for a while, the stock market still provides one of the best opportunities to create wealth today. The real problem is the fact that we delegate the wealth creation to the so-called “professionals” who continue to use us instead of working for us. You really only have to look at the market’s most recent decline to know that most of them don’t know what they are doing. If they did, they would be a lot more proactive. I personally have family members who lost a fortune and stock brokers did not tell them to lock in their gains. All the while, the market took a nose dive and they lost nearly half of the value of their portfolio.

My question is this. If the professionals are so good at what they do, then how come they don’t tell us to lock in our gains?

The proverbial “buy and hold” stock market investing strategy is a myth and an easy out for Wall Street to never have to tell you when to sell. The simple fact is that all stocks regardless of how good they may appear to be, will eventually come down in value. The stock market is littered with stocks that traded at all time highs and now trade at all time lows. Why is this? Well, a stock’s price is a function of it’s supply and demand. The more demand for a stock, the higher the price and the lower the demand, the lower the price. You’d think that this demand would come from investor’s like you and me. But, our individual purchases are a drop in the bucket compared to where the real demand comes from — big institutional investors. When they decide to take a sizable position in a stock, they invest millions and increase demand for a stock substantially which in turn increases the price. And, when they sell this decreases the demand which in turn decreases the price. This is the key reason that even good stocks go down in value, the demand dries up and moves onto another stock.

When they want to unload their stock they need buyers — because they aren’t buying anymore — so the price doesn’t come down too fast and that’s when you, surprise, surprise, start hearing  about how great the stock is and are encouraged to buy it. This also tells me why your brokers don’t tell you when to sell as well. Who is their bigger customer, you or them? It’s simple economics. The big institutional money doesn’t follow their own advice. They actually pick a time to sell and do it while Wall Street tells you to buy and hold. This is so they can keep the price of particular stocks propped up. If they told you to lock in gains and sell with the big money, then they would be working against their best customers.

So what is a small investor supposed to do?

The first thing I would do if you are like people I knew who lost big money, is fire your broker. They’ve proven they are not up to par. The next thing I would do is start researching two specific investing strategies and pick one that you are most comfortable with and then run with it. The first book I would read is “The Intelligent Investor” by Benjamin Graham. He was a mentor to one of our most famous investors today and that is Warren Buffett. The other strategy I would check into is William O’Neil’s “How To Make Money In Stocks”. O’Neil is famous for being publisher of the Investor’s Business Daily. I personally prefer the CANSLIM strategy over being a value investor.

The thing is that if you want to be successful in the stock market, investing today provides you the opportunity to create wealth you never knew you could. The only thing is that you need to study the market and apply what you learn. No one is going to hand it to you. You are going to have to first pick a strategy and then next start applying it. Will you make mistakes? Yes, but do you think you can do as well as losing half of your money? I don’t have to tell you what I think.

There is no question that trading in the stock market can furnish incredible returns for the patient investor. Sure, there are day traders that are able to turn some excellent profits in a short period of time, but that is not a practical goal or expectation for the average investor. Instead, there needs to be a balanced and well thought out plan for retail investors to use that can conserve their capital while giving them a thrill that fast returns can provide. One excellent way that average investors can see high returns, is by trading penny stocks.

Trading and investing with penny stocks carry many pros and cons. The risk associated with trading penny stocks is very high. If an investor thinks that he or she can blindly pick a company, buy a bulk of shares and watch them ride off into the sunset, they are mistaken. More often than not, a stock’s value falls below a dollar for a good reason, generally due to the company’s fundamentals failing pretty badly. Penny stocks are some of the most volatile on the market, often moving 10% or more in a day in either direction. While these stocks look cheap, think of what happens when a stock valued at $.50 falls to $.40, that’s a 20% drop. That would be similar to a $50 stock falling to $40, clearly not a positive move. Penny stocks can just as easily fall to zero as they can double or triple. The pros of penny stocks, is that when they do rise, they rise exponentially, often providing returns you would otherwise never see.

The only way that such a stock could be lifted back up is by a company turnaround, or a buyout. The odds are that the company will go under more often than regain its prominence. This is where research will help you choose the right company to invest in. Did this company become a penny stock because the CEO was ruining the company? Look for new management with a good record of success at previous companies. Did the stock fall because their product was not selling? Look for new product lines that fill a need that other companies have not met yet. Did the company fail, but the product is still strong? Look for a potential reason for the company to be bought out by a larger company interested in their product.

There are several reasons why a penny stock can rise; you need to watch closely at every move the company makes to see where your buying opportunity is. Biotech and pharmaceutical penny stocks are more difficult to predict than the run of the mill penny stock, so there is more research needed on the part of the investor. One of the best things to look for in this type of penny stock would be test drugs. What kind of drugs is the company testing? Is there any competition in the market for this drug? If there is not, then a positive test result can catapult the company’s stock higher.

photo credit: pfala

When you have decided upon a stock, you need to look for a broker to purchase your shares through. Most brokers charge a commission in the range of $10 for one order. These brokers often include additional commissions on stocks that are valued at less than $2, often coming to an additional 1/10 of a cent, which does not sound like much, but it does add up. Also important to consider is that your commission can significantly cut into your profit. If you spend $100 on your shares, and have to pay $10 commission, you are already 10% down on your trade, and you need to sell at some point for another $10. Buying larger quantities of shares can help you cut that percentage down, but don’t risk too much of your money either, do whatever you feel comfortable with, be balanced.

Penny stocks carry the potential for some excellent gains, or some significant losses. Knowing that you may well lose much of your investment when buying penny stocks can help you to cope if you are wrong on your choice. On the other hand, the possible profit will keep you excited to check your investment over the course of time. It may be advantageous to buy more shares later on, if you see the stock fall further and have confidence it will still rise. Patience is the key, and be balanced about keeping risk to a minimum in your portfolio.

You probably heard the term before. No load mutual funds. You may not know what these are, but you probably heard that they are “very good thing”. Yes, it is true, no load mutual funds are a good thing. However, this does not help you very much if you don’t know what they are. This article is here to help rectify that situation. Fortunately, they are not that hard to understand.

To understand the no load mutual fund, we must first understand what a loaded funds is. A load is a fee that is charged to an investor when they buy or sell a mutual fund. A load that is charged upon the purchase of a fund is known as a front end load. A load that is imposed on the sale of fund is a back end load. The money from this load goes to the broker as a compensation for selling the fund. If the fund does not have these load fees, it is known as a no load mutual fund. Pretty simple, huh?

So, you know what no load mutual fund is now. What good does this do you? What is so great about these funds? I have written before about reducing expenses when investing. The more expenses that you pay, the less of your own money that you get to keep. No load mutual funds help reduce these expenses in investing. Now, this does not mean that no load mutual funds are expense free. However, since they lack the front and back end loads, they are much lower in expense.

It should be readily apparent when researching funds which ones have loads and which ones do not. Most mutual fund providers have many no load mutual fund options. Keep in mind that pretty much all passive index funds are no load. Since I recommend investing with these passive funds in the first place, this topic might be slightly redundant. However, if you still prefer going with managed funds, finding managed funds with no loads will help you save money in the long run.

So, these funds are relatively straightforward and simple. This means that you have no excuse for not demanding load free funds when you are investing. Some will tell you that funds with loads can afford to pay for better managers, however, there is little research support that this is the case. Any marginal advantage that the money manager might have is wiped out by the extra expenses that you incur when buying a loaded fund. Keep it simple, keep it no load. That is all

While not strictly a stock market related topic, many investors quickly become interested in the subject of tax free municipal bonds.  The reason for this:  the words “tax free.”  While taxes are certainly needed to help keep our civilization running along, nobody really wants to pay more of them than they have to.  Many people have heard of really wealthy people who can live off the tax free returns from their municipal bond portfolio.  Of course, this sounds like an amazing lifestyle, and leads many people to want to find out more about this investment option.

So, what are municipal bonds?  Quite simply, these are bonds floated by local governments to fund public projects and such.  Basically, when you buy one of these bonds, you are lending money to a local government.  In exchange for this, you get paid a certain interest rate.  Since these are local securities, the federal government can’t tax them.  Many times, the income from these bonds is also free from state and local taxes.

photo credit: Jef Nickerson

As you might imagine, if your marginal tax bracket is quite high, the tax savings from these might be quite significant.  These bonds offer much lower pre tax returns, but the post tax return for those will high incomes can make them well worth it.

If you are considering investing in municipal bonds, consider the whole picture.  Figure out what your tax bracket percentage is.  This is the amount you will be paying in tax on income from traditional corporate bonds.  Divided the expected yield of a taxable bond by this amount to get your after tax yield.  Compare this with the rate of return from the municipal bond.  If your tax bracket is likely to remain the same into the future, go with whichever option provides the best overall yield.  For those with lower tax brackets, municipal bonds will probably not be worth it, but it is worth looking into.

So, this covers the basics of buying tax free municipal bonds.  There are many complicating factors when it comes to tax issues, so if you are in doubt, please consult an accountant who can figure out what you really owe.  However, if the taxes work out to your advantage, be sure to take advantage of the savings these bonds can provide you with.