Investing is easy to learn but very difficult to master. I've made my fair share of mistakes, especially when I was a beginner. Instead of taking a measured approach and trying to focus on the long term, I jumped in with both feet and did a lot of things that were not good for me financially.
It would have been better if I had bought a broad-based index fund like . SPDR S&P 500 ETF (NYSEMKT:Spy). Here's why I think novice investors should do this instead of what I did.
Fortunately, there wasn't much to lose
When I started investing, there was no such thing as an exchange-traded fund (ETF), but by then Vanguard had popularized index funds. However, at that time I had no interest in index funds. I wanted to find a trick to get rich quickly. There is no such trick, but I failed many times to find out the hard truth.
Fortunately, I was quite young when I started investing, so I didn't lose a lot of money while learning. And I had enough success to stay interested. Some investors get burned and walk away from investing, choosing to avoid one of the most powerful tools for building long-term wealth. The compound interest effect that can be achieved with stock investments is difficult or impossible to replicate with other savings vehicles.
So what should I have done? And what should new investors do today? Buy an ETF that focuses on a broad index, like the SPDR S&P 500 ETF. You can also buy index mutual funds such as: Vanguard S&P 500 Index Fund (VFIAX). We do the same thing, just do it a little differently.
The S&P 500 is a carefully selected index
There are several reasons why you might choose to invest in . S&P500 Index as a starting point. A big advantage of using the S&P 500 index as a basis for ETFs and mutual funds is that the approximately 500 companies that make up the index are carefully selected to represent the entire economy.
In other words, a group of humans vets stocks before adding them to the index, including making sure they are large and reasonably financially strong at the time of inclusion. It's not fair to say you're only buying a small portion of the SPDR S&P 500 ETF, but with one investment you're investing in a widely diversified list of important companies.
The index is also market capitalization weighted, meaning that the largest companies receive more capital. In general, the largest stocks tend to be the best performing stocks, so stocks that are doing well end up being more heavily weighted.
While this is true most of the time, when transitioning from a bull market to a bear market, holding more assets in the top-ranked stocks in the bull market can expose you to the stocks that fall the most. However, over time, the positives of market cap weighting generally outweigh the negatives.
On the other hand, both the SPDR S&P 500 ETF and the Vanguard S&P 500 Index Fund are very cheap to own. The SPDR S&P 500 ETF is the first ETF ever with an expense ratio of just 0.09%. You can also own cheaper ETFs, but this one has a very low expense ratio. The Vanguard S&P 500 Index Fund has an even lower expense ratio at 0.04%.
The advantage of choosing the SPDR S&P 500 ETF is that it can be traded throughout the day, just like stocks, whereas mutual funds can only be traded once a day, at the end of the day. But the biggest advantage is the fact that using any of these index products will not underperform the broader market, which is typically tracked by the S&P 500 Index. Of course, neither will outperform, but one easy investment will give you a solid foundation to learn and grow as an investor.
For example, you can go through your list of holdings, find a company you know something about, and start researching that stock. apple, procter and gambleand disney All would be a good starting point for this. Remember, when they make it into the S&P 500, they are large, economically important companies, and these are the types of stocks that new investors should pay attention to.
Once you find a company whose business you understand well and think is a good long-term investment, you can buy shares (or perhaps sell a small amount of the S&P 500 fund you bought). Dip your toes and track the stock for a while until your feet are wet. If you're comfortable investing and enjoy it, buy another stock.
If you're worried about investing and don't enjoy it, you can just sell it and invest your money (and future savings) in the SPDR S&P 500 ETF. Nothing more needs to be done regarding the stock.
SPDR S&P 500 ETF is a core holding
Buying and selling stocks is easy. Becoming a long-term investor is much more difficult because there is a learning curve involved in finding the investment style that suits you. There's also a significant emotional component that can't be fully explained to someone who hasn't owned stocks in a bear market.
But by starting with a broad index product like the SPDR S&P 500 ETF or the Vanguard S&P 500 Index Fund, you can get in on the investing game without taking on too much risk. If you take the time to learn from this, you may end up with a portfolio of individual stocks, or a hybrid of index products and some stocks. Or you can decide you want to keep things simple and use only index funds.
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Reuben Gregg Brewer has a position at Procter & Gamble. The Motley Fool has positions in and recommends Apple, Vanguard S&P 500 ETF, and Walt Disney. The Motley Fool has a disclosure policy.
How should beginners invest in stocks? Try this index fund.Originally published by The Motley Fool
