I remember when I first started investing, it felt really great. I mean I was getting into this very exciting world where I would pay attention to price-per-earnings ratios. I was looking at the book values of companies. I was checking out annual reports. It felt like I was really engaged in high-level, important stuff.
Remember, I was very young when I started stark trading in Los Angeles and, unfortunately, I let it all get to my head. I focused primarily on quick gains. Instead of realizing that there were solid companies that will continue to be solid like Microsoft and Adobe, I traded really speculative stocks that, in hindsight, I really had no business buying into.
This really highlights the central fact that beginning with anything is always rough. Whether we’re talking about relationships, learning a new body of information or learning new skills, the beginning is always tough. You feel like you’re just groping your way in the dark. Oftentimes, you feel like you’re just taking random shots and hoping to get lucky.
Throughout all this process, you know you’re paying for your learning curve. It’s not a question of if but a question of when you will be charged for all that learning and, believe me, of all the thousands of dollars I spent on worthless companies, I definitely learned that there is such a thing as conventional wisdom.
Back in the day, I was really hesitant to buy Microsoft because it was trading at $100. To me, $100 might well be a hundred thousand dollars today. That was just unimaginable to me. In my mind, why would people in their right minds pay a $100 for Microsoft? There is no way that stock can go up any higher. There’s just no room up there. It can only go down.
Well, I stuck to my guns and, sure enough, I proved myself wrong not just once, not just twice, but many times over. You know what happened Microsoft hit 100 and then went on to 110 and 120? I was thinking there was some sort of imaginary financial ceiling that it just can’t burst through.
Well, it would split into two or sometimes into three. So, if I had bought a hundred shares of Microsoft, it could have turned into three hundred shares, charts and guess what else happened? That’s right! When the stocks split to, let’s say $33 per share, it would keep going up until it hits $100 or $120 a share and then again, predictably, it would split again into three or three, and on and on it went until people who were low-level employees or small-time shareholders in Microsoft became multimillionaires. The sad part? I was not one of them.
This is why it’s really important to understand investing for beginners. You cannot let the hype get to your head. You have to understand that you are learning, and it doesn’t have to be painful. It doesn’t have to be some sort of financial punishment. It doesn’t have to be some sort of emotional or psychological ordeal.
Instead, investing for beginners should focus on managing your chances of loss while you’re learning. It’s built on the solid bedrock of learning because if you get in there with the mindset that you’re going to make a million dollars overnight, it’s not going to turn out well for you. That’s my case. That’s what happened to me.
So, how do we do this? How do you start trading stocks with the overarching goal of just minimizing your chances of loss while maximizing your chances of learning the ropes?
The easiest option is to go with mutual funds. These are huge pools of money that buy stocks in many different companies. Best of all, these are run by trained professionals. These people know what they’re doing. They have many years of experience, and they know the ropes.
These mutual funds also have a track record that they have to publish as mandated by law. They can’t hide anything from you. You can look at who the eagles are, and you can see who the dogs are.
There are also many different types of mutual funds. Some basically just mirror the Dow Jones Industrial Average or some other index. They just buy up the companies in the same proportions as those indexes. If you think that the stock market as a whole will go up, as measured by the S&P 500, then there is an index for that. If you are very bullish on transport stocks, there is a transportation index which you can buy so you can bet on your bullish statements.
Mutual funds are awesome because they can help you slice and dice the general market and zero in on particular sectors that you think are going to be hot. You can zero in on growth with specific types of mutual funds.
The Downside of Mutual Funds
Just like with anything else in life, there is no such thing as 100% good thing. The same applies to mutual funds. For every upside, there’s always a downside. The downside to mutual funds, as awesome as the upsides may be, is that ultimately, winners subsidize the losers. Think about it.
One of the biggest draws or attractions people have to mutual funds is that they diversify their portfolio. This means that they are invested in so many stocks that even if some of those stocks lose value, they are compensated or offset by the other stocks that went up in value. With everything else being equal, the mutual funds’ overall value remains stable and goes up because a very talented fund manager would, of course, weigh the fund more heavily on winners.
However, there’s always the assumption that there will be some losers in the mix. That’s just the way things are. Now, why is this a downside? Well, the downside should be quite obvious. Wouldn’t it be great if you just invested only in winning stocks? Skip the losers. Skip the dilution. Focus on the ones that will go up.
Well, this is the downside to investing in mutual funds, but this is also the great opportunity for you. You can start by cutting your teeth in investing by investing solely in mutual funds. Pay close attention to their portfolio. Track your funds’ value like an eagle. When you look at the portfolio and you see a winner or a handful of winning stocks, trade them individually.
By playing the game this way, you eventually develop a talent for spotting winners. It’s not going to be obvious when you start trading stocks, but by trading mutual funds, you prevent yourself from crashing and burning. You remain motivated, and you start developing a taste for determining winners and separating them from stocks that would either trade sideways or are flat-out out losers.
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