Mainly, there are two kinds of stock: common, and preferred stock. A common stock is what most people buy: you get votes and a share of any price gains. Preferred stock usually pays a set dividend, and gets paid before common holders. On the other hand, it usually gives no votes. Again, none of these rewards is promised, as prices can drop, and dividends can stop.
4 Things Before Buying Your First Stocks
Since stocks go up and down, a beginner investor must at least get these four things sorted first, so a loss in stocks would not financially harm you. This is not a financial advice, and you may want to consult with a professional financial planner or advisor.
NEVER use emergency fund. Save a few months of basic living costs in a plain savings account. If your car breaks down, you pay from this cash and never have to sell stocks.
Pay debts first. If you owe money at a high interest rate, such as on a credit card, paying it off first is often more important than investing. Remember that stock gains are never certain, but the debt interest is.
Plan a goal with a time horizon. Have a clear goal on why you start investing, and set a time horizon. This means, you have to know when you will need the money. Saving for a home in two years will be different from saving for retirement in 30 years.
An honest read of your risk tolerance. This is how much of a fall you can stand without panicking. If a 20% drop would make you sell everything, you need a calmer approach.
The SEC's asset allocation guide explains both ideas: time horizon and risk tolerance. Money you will need soon does not belong in stocks. Prices can stay low for years, and you may be forced to sell at a loss just when you need the cash.
We will discuss the step-by-step on how to start investing, what are the assets (securities) you may want to take a look, as well as their risk levels.
Step 1: Picking Single Stocks, ETFs or Index Funds
There are two ways you can invest in stocks. You can pick a company and buy its stocks, or you can buy a bundle of stocks ("fund").
A single stock is one company.
An ETF (exchange-traded fund) is a basket of many investments that you buy and sell on a stock exchange, just like a single stock.
An index fund is a fund that copies a list of companies, called an index. Many index funds are also ETFs. Index funds can also be mutual funds (index mutual funds). Unlike ETFs, mutual funds are not traded on an exchange. Instead, you buy or sell at one price per day, but the net asset value (NAV) is only calculated after the market closes.
| Single stock | ETF | Index fund |
|---|
What you buy | Part of one company | A basket of many companies | A basket that copies an index |
Risk spread | None | Wide, if it tracks a broad index | Wide, if it tracks a broad index |
Research needed | High | Low | Low |
Cost | Broker fees | Yearly fund fee | Yearly fund fee |
Fit | You like to research and can accept big swings | You want simple, spread-out start | You want simple, spread-out start |
When to Pick Single Stocks
Picking a single stock is not an easy task. Before you buy, you should be able to answer:
What does the company sell?
How does it earn money, and is that money growing?
How much debt does it have?
Does it publish its filings (reports) for the public to read?
That takes hours for each company, and you may have to repeat the research as things change. Let's say, for example, you find "Company XYZ" exciting. The stock price can still fall if one product fails, one deal goes wrong, or any big news is breaking the industry. Investing in one stock alone puts all your risk in one place, so single stocks make sense once you have done the research, and more importantly, can afford to lose part of that money.
Why Many Beginners Start With Funds
A fund basically spreads one purchase across many companies. For example, an S&P 500 index funds spreads one share purchase across 500 companies in the US. When you buy one share of a broad ETF or index fund, you own a tiny slice of every company inside it. So, if one company struggles, the others can help spreading the risk, in the hope that the loss becomes more manageable.
An index fund tracks an index, and an index is a list of companies used as a benchmark. For example, an index may track "the largest companies" in a country. An index will have its own formula to determine its list, and the fund simply holds what is on that list. Some funds are managed actively by managers who pick the holdings, and they usually charge more.
Funds will charge a yearly fee, called the expense ratio. A fee or ratio of 0.20% means you pay $2 a year for every $1,000 you hold. The fee is taken from the fund automatically, so check it before you buy. Remember that funds still carry risk, so if the whole market falls, so does the fund.
Step 2: Choose a Broker You Can Verify
To invest in stocks, an individual investor will need a broker. A broker is the company that lets you buy and sell stocks: you open an account, put money, and it places your orders on the market. Different brokers have different fees, tools, and types of assets you can buy, so make sure you compare them and confirm that they can get you the type of investment you want.
This guide serves as education, and does not recommend any particular broker.
Five Important Checks
Is the firm licensed? Check on the official website of financial regulator, in the country where the broker operates. Make sure the broker is listed and certified.
Who holds your shares? There is a firm that acts as "custodian", keeping your shares safe. Ask who it is, and whether your holdings are kept separate from the broker's own money.
What are all the fees? Look for the trading commission, the currency conversion fee, and any account fees (monthly, yearly, inactivity or withdrawal).
Can you buy fractional shares? This lets you invest for $100, for example, even if one share costs more.
What is the minimum deposit? Pick a broker whose minimum fits your budget.
Warning: scammer will usually give promises of guaranteed returns, pressure to act fast, and unsolicited tips. Be aware, and remember that all investments carry their own risks.
Step 3: Set Your Amount and Rhythm
Start with an amount you can put, and not withdraw for years. It can be small, but what matters more is investing on a steady schedule, such as once a month, right after you get paid. Remember to only invest money you will not need soon.
Fractional Shares
When starting with a little amount, you want want to look at fractional. A fractional share is a part of one share, so if a share costs $1,000 and you place a $100 order, you buy 0.1 share. But remember that:
Not every broker offers fractional shares, so check with your broker.
A broker may allow them only on certain stocks.
Some brokers accept only market orders for fractions, so your purchase price may not be exactly what you expect.
Dollar-Cost Averaging
Dollar-cost averaging means investing the same amount of money at regular times, no matter what the price is. Let's say, we put $100 a month:
Month | Amount invested | Share price | Shares bought |
|---|
1 | $100 | $50 | 2.00 |
2 | $100 | $40 | 2.50 |
3 | $100 | $25 | 4.00 |
4 | $100 | $50 | 2.00 |
Total | $400 |
| 10.50 |
When the price was low, $100 bought more shares. When it was high, it bought fewer. The average cost works out to about $38.10 a share, which is below the simple average of the four prices ($41.25).
Note that this does not stop losses. If the price had fallen back to $25, the 10.5 shares would be worth about $262, less than the $400 being put in. Dollar-cost averaging only reduces the risk of putting everything in at a bad moment.
How Fees Impact Small Portfolios
Fees look small, but remember that they repeat every year. For example: a $100,000 portfolio growing 4% a year for 20 years, will end near $208,000 with a 0.25% yearly fee. In contrast, it would only be about $198,000 with 0.50% fee, and only about $179,000 with 1.00%.
For small accounts, a flat fee may take a big slice of that small deposit. A flat $5 charge on a $100 order takes 5% before your money has done anything. You generally want a broker with low or no flat fees, and pick low-cost funds.
Step 4: Place Your First Order
Now, assume that you have opened an account and deposited some amount. The user experience for buying a stock may vary depending on your broker, and what the app looks like. A typical journey to buy may look like this:
Search the ticker: Type the short code for the stock or fund, such as "XYZ". Check the name next to it so you pick the right one.
Buy: Choose "Buy".
Choose amount: Enter a number of shares, or a dollar amount if your broker allows it.
Order type: Choose market, limit or stop (see the table below).
Review: Read the summary: name, amount, order type and any fee.
Confirm: Press the button. If the market is open, many orders fill in seconds.
You will see two prices, so pay attention. The bid is the highest price a buyer will pay right now, while the ask is the lowest price a seller will accept. You usually buy at the ask, and sell at the bid. The gap between them is a cost of trading that people call "spread".
Market, Limit and Stop Orders
There are different types of buy orders and sell orders, and each has different effect. Make sure you know what kind of order you are putting. Here are the differences:
Order type | Advantage | Disadvantage | Example |
|---|
Market order | Filling up orders | No exact price | You buy 2 shares at the best available price. It could fill at $50.05 or $50.20. |
Limit order | You set the most you will pay (or the least you will accept) | May not get filled | You set a limit of $49 to buy. If the price never falls to $49, nothing happens. |
Stop order | Turns into a market order once the stop price is reached | No exact price | You own XYZ and set a stop at $45. If the price hits $45, it becomes a market order to sell. It could sell at $44.80. |
For a first buy of a broad index fund, a market order is simple. A limit order gives you more control when you care more about price.
Step 5: Diversify
Diversification simply means not putting all your money in one place. You may want to spread it across many companies and many sectors (such as banks, health care, technology and food), so if one bad company or one bad industry goes down, it cannot sink your whole portfolio of investment. This is a reason why index funds exist, since a broad fund does much of this diversification for you. The fund holds many companies at once.
Once your investment is diversified, then you may want to leave it alone, mostly. Keep adding your monthly amount, and check in once every three months. At each check-in, ask whether your goal and your risk comfort still match what you own. You do not need to watch prices every day.
Every once in a while, you may want to do some rebalancing, which means bringing your mix back to your target. Say you wanted 60% in one fund and 40% in another, and a rise has pushed the portion of your first fund to 70%. Then you can add new money to the smaller one, or sell a little of the bigger one.
Investing in US Stocks From Outside the US: Taxes and Currency
You can often buy US stocks from another country, but taxes and currency add two extra layers. Plan for both before you deposit money.
The W-8BEN form. Form W-8BEN is the "Certificate of Foreign Status of Beneficial Owner for United States Tax Withholding and Reporting (Individuals)". You sign it to tell the payer (usually your broker) that you are a foreign person, and where you live for tax purposes. Brokers often ask you to complete it when you open an account. See the IRS form.
The 30% US tax. The IRS says that most US-source income received by a foreign person is subject to US tax of 30%, and that tax is generally withheld before you are paid. A lower rate, or no tax at all, may apply under a US law or a tax treaty between the US and your country. Made-up example: a $10 dividend with 30% withheld pays you $7. Under a treaty with a lower rate, you would keep more.
Your home country may tax you too. Many countries tax dividends and gains from foreign stocks. Some give credit for tax already paid to the US, and some do not. The rules differ for dividends and for gains.
Currency costs. If you hold local money, you must convert it to US dollars to buy, and back again when you sell. Each conversion usually carries a fee or a worse exchange rate. Made-up example: a 1% fee on a $100 purchase costs $1 on the way in, and about the same on the way out. Prices in dollars can also move against your local currency, which helps or hurts your result.
This guide does not give rates for any country. Check your own country's tax rules, or ask a qualified tax professional, before you invest.
Beginner Mistakes That Cost the Most
Trading too often. In Barber and Odean's study, the most active households earned 11.4% a year against 17.9% for the market. Instead: buy on a schedule and check in quarterly.
Buying on tips or hype. The SEC warns against buying a stock solely because of someone else's tip. Instead: only buy what you understand, and be wary of anyone pushing you to act fast.
Putting everything in one stock. One bad event can wipe out much of your money. Instead: start with a broad fund, and keep any single stock to a small share.
Ignoring fees. Small yearly fees compound into thousands of dollars over decades. Instead: read the full fee list and compare expense ratios.
Investing borrowed money. Prices can fall, but you still owe the loan plus interest. Instead: invest only money you will not need soon.
Selling in a panic. Selling after a fall locks in the loss, and you may miss the recovery. Instead: decide your plan in advance, and invest only what you can leave alone through a downturn.
Frequently Asked Questions
How do I start investing in stocks as a complete beginner?
Build emergency savings first, then open an account with a regulated broker and buy a broad fund. Make sure you have no expensive debt, set a goal and time horizon, place a small first order, and keep adding the same amount on a regular schedule, such as monthly.
Can I invest in stocks with $100 or less?
Yes, if your broker offers fractional shares. A fractional share lets a $100 order buy part of an expensive stock or fund. Before you start, check the broker's fees and minimum deposit, because a flat charge of a few dollars takes a large share of a small order.
Should a beginner buy individual stocks or ETFs and index funds?
Many beginners start with ETFs or index funds, because one purchase spreads your money across many companies. Single stocks can pay off but need research and put all your risk in one company. Funds can still fall with the market, but one failure hurts far less.
What is the difference between a market order and a limit order?
A market order buys right away at the best available price, but the price is not guaranteed. A limit order sets the price you will pay or better, but it may never be filled. Market orders favor speed, and limit orders favor price control.
What is dollar-cost averaging, and does it protect me from losses?
No, it does not protect you from losses. Dollar-cost averaging means investing the same amount on a schedule, which reduces the risk of buying everything at a bad moment. If prices keep falling after you buy, your holdings are still worth less than you put in.
Can I invest in US stocks if I do not live in the US?
Often yes, but it depends on your broker and your country's rules. Check that the broker accepts residents of your country and is regulated. Also learn how US tax withholding and your home country's taxes apply, and what currency conversion will cost, before you buy.
Usually yes: the IRS says most US-source income paid to foreign persons faces 30% US tax, unless a law or tax treaty lowers it. The W-8BEN is a form that certifies you are a foreign person, so the payer can apply the right rate. Your home country may tax the income too.
Can I lose all the money I invest in stocks?
Yes, you can, though that is most likely with a single company that fails. A broad fund spreads that risk, but its value can still fall a lot in a downturn. Invest only money you will not need soon, and never borrow to invest.
Sources
This guide is general education, not personal financial, tax or legal advice.
