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The past year has changed many money management habits, but people still found ways to invest even among the uncertainty triggered by the pandemic. According to a Pew Research study, the percentage of households that continued to invest has stayed constant, and thus over half of US households have some investment in the stock market. Interestingly, even households with annual family incomes lower than $35,000 still have assets in the stock market, and people are starting to buy stocks from an earlier age compared to previous generations. Apart from stocks, which are the most popular investment vehicle, Americans are also investing in mutual funds, dividend stock funds, certificates of deposit, rental housing, and high-yield savings accounts.
Without a doubt, investing is more approachable than ever before, and you don’t need a degree in finance or a job on Wall Street to grow your wealth. However, there’s also a lot of misinformation out there and a lot of pressure to be a successful investor, which causes beginners to make costly mistakes. For example, one study found that 75% of Americans manage their own finances and often make investment decisions on a whim or based on what they hear in the media.
So, once you’ve decided that you’re ready to invest, how can you make sure your investment will pay off and that you won’t be putting your family’s money at risk.
Decide on a risk level you are comfortable with
Risk management is one of the most valuable lessons of investing and, sadly, one that many beginner investors skip. As a general rule, risk is inseparable from returns. However, it is adjustable. Risk can be as close to zero in the case of treasury bills, or high in the case of emerging industries. It’s up to you to establish how much risk you’re comfortable with, how much risk you can realistically afford, and what types of investments you choose from within that group. Ask yourself the following questions:
- How much disposable income do I have available for investments? (never invest from the emergency fund or from the money you need for essential expenses).
- How much risk can I handle? Would I rather invest in something that has high risk and high return, or something with low risk but that slowly delivers steady income over time?
- How do I plan on mitigating the risk?
Be a critical thinker and avoid social media hype.
Social media can be a great tool for investors. Apart from the fact that it’s a great source of inspiration, it helps you join communities of like-minded investors and stay up to date with the latest news. You can follow your favorite investors on social and listen to their insights, subscribe to investment channels, and much more.
However, social media can also be very misleading, and if you don’t know what you’re doing, all the noise will sway your investment strategy in the wrong direction. Even if there’s nothing from with getting your updates from social media, don’t forget about reliability – the investment world’s most attractive attribute. At the end of your day, your investment decisions need to be backed by cold hard data, not media buzz.
Here are some tips that will help you figure out if an investment idea is reliable or it’s just social media noise:
- Was the article posted by a trustworthy publication/finance journalist/competent investor? Anyone can post anything on the Internet, but it’s up to you as the reader to be a critical thinker and decide if the information is trustworthy.
- Avoid investing in something that’s overhyped on social media. All those articles you read about may be the result of aggressive PR, and the stocks could flop soon. For example, King, the company behind the famous game Candy Crush Saga, failed soon after going public, although it had a lot of hype. If something is described as the “next big thing,” take it with a grain of salt. It’s enough for one website to break through with a viral article, and all the others will pick up the news to drive clicks. That doesn’t mean that really is the next big thing and that you’ll make money from it.
- Don’t react quickly to doomsday scenario-type articles. These drive a lot of clicks but aren’t always based on facts. For example, if you own stocks in an industry, and you read an article that the industry is going to fall, don’t rush to sell all your stocks right away. Investigate, weigh, and consider, ask an expert about it. Your stocks might be going through the usual fluctuations, or they really might be going down, but you won’t find that out from a Buzzfeed article.
Diversification – one of the best ways to minimize losses
No matter how careful you are, there will be times when your investments lose money. It’s an inevitable part of investing. But the good news is that you can prepare for this and mitigate your losses by diversifying your assets. Diversification of asset classes is a practice that all veteran investors swear by, and that can save you from quite a lot of financial trouble.
However, keep in mind that there are good and bad ways to diversify. Ideally, you should buy assets that perform differently under the same market condition so that in case something goes wrong with one, the others will mitigate the loss. You can invest in bonds and mutual funds, and buy shares from companies abroad. This way, when stocks drop, bond prices tend to go up because investors put their money into safer investment vehicles. At the same time, when buying stocks, try not to put all your money in the same basket – whether that’s a single company or a single sector. For example, airline and travel company stocks took a huge blow in the past few months, and it might take years until they recover, so investors whose portfolios consist entirely of those stocks probably regret not diversifying.
Disclaimer: This content does not necessarily represent the views of IWB.