One of the essential steps to becoming a successful investor is to start investing. But to ensure success as an investor, it is best to consider the top 3 steps to prepare for investing.
The items listed below are things to consider to ensure that you do not get into a bad situation caused because of your investing. Once you get all your finances in order, you will be in a position to build wealth through passive income and compound interest!
1. Evaluate your Debt
Not all debt is equal! Everyone has to determine what makes the most sense for their unique situation, but as general advice, it is probably best to pay down your debt before getting started in investing. The one exception would be your mortgage.
I evaluate my debt as an investment. Is the interest I am charged on my debt higher than my expected return from an investment? If so, then I would say pay the debt down! The reason I mention mortgages as an exception is that my mortgage is 3.3%, but I might get 5% in the market. I would rather get the additional 1.7% on the money being used to invest!
2. Emergency Fund
Most financial experts recommend that individuals have 3-6 months of expenses in an emergency fund. Things happen, and when they do, you will need to have cold hard cash ready! I recommend having an emergency fund in a high yield online savings account. Most are yielding around 1.25% right now. While that is a low return, it is better than nothing, and you need the liquidity for your emergency fund.
The reason this is required before investing is that markets have volatility, and if you are forced to withdraw funds for an emergency from your investment, then you may suffer a loss.
3. Investment Goals
Is your goal to save for college, a new house, a car, or just a quick profit, maybe to retire early? Whatever your goal is, you need to determine the duration of that goal, your liquidity needs, and the risk you are willing to take on. This will create a clear picture of what you will be investing in. While most people just think of the stock market, there are many other investment vehicles to consider such as:
- Common Stocks
This is probably one of the most well-known types of investment. When you purchase a stock, you get a share of ownership in the company. Said a different way, if you buy a share of Facebook, you are an owner (be it a small one) of Facebook. Profits/losses are determined by the change in the share price of the company. Some companies also pay a dividend which can compound your investment’s growth.
Think of a bond as an IOU. Companies, governments, and municipalities use bonds as a means of financing projects. Bonds are a fixed income instrument, and the owners of the bonds get paid interest for lending the money.
- Preferred Stocks
As a preferred stockholder, you also have ownership, but you do not have voting rights like common stock. Preferred stocks are a blend of characteristics of bonds and common stock. The big thing to pay attention to is if the shares are callable or convertible, meaning the issuer (company) can either purchase the stock back at a predetermined price or exchange it for a given number of shares.
ETF stands for exchange-traded funds, which is a type of security that is a collection of other securities such as stocks, commodities, bonds, or a mixture of multiple types. Often ETFs track indexes and are similar to mutual funds except they are traded on the exchanges and are more transparent.
These are insurance products that can provide guaranteed income for life and protect your money. You can take the income now or in the future. The income received from an annuity is taxed at ordinary income tax rates, not capital gains rates, which are usually lower.
- Certificate of Deposit
A certificate of deposit (CD) is offered by banks and credit unions, which is a federally insured product. An investor provides a lump-sum of money with the bank at an interest rate and agrees not to touch it for a while.
A cryptocurrency is a general term for a digital currency that is a part of a decentralized network based on blockchain technology. Blockchain is a ledger enforced by a network of computers. Most cryptocurrencies are generally not issued by any central authority, rendering them theoretically immune to government interference or manipulation.
- Metals—such as gold, silver, platinum, and copper.
- Energy—such as crude oil, heating oil, natural gas, and gasoline.
- Livestock and meat—including lean hogs, pork bellies, live cattle, and feeder cattle.
- Agriculture – such as corn, soybeans, wheat, rice, cocoa, coffee, cotton, and sugar.
What is Acceptable Risk?
While each investor has their own situation, understanding the amount of risk you are willing to accept will help drive the investment profile that fits. Usually, the more diversified you can be with your investment profile will reduce your risk. The higher degree of risk an investor takes on, the higher the return should be.
Having your debt under control with a 3-6 month emergency fund is the first two critical steps in getting started with investing. The third and final step is determining what type of investment vehicle or security you want to invest in.
Best of luck to all of you from Invest Like DAD! Research an investment strategy and keep your emotions out of it, and you will find success!
This post is my opinion, which is strictly for information & educational purposes only. The post is not intended to provide any investment advice. Please seek your own duly licensed professional for investment advice as they will be able to consider your situation. Please read my Terms & Conditions Page for a full disclaimer.