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  • Writer's pictureKen Holman

Understanding Investment Basics


Person investing on their laptop

It’s important to continually review the basics of investing in stocks. If you lose track of the basics, it’s easy to start making mistakes. Here are a few concepts to keep in mind:

 

Assess your financial situation: You need to understand where your financial starting point is and where you want to go. This involves how much risk you want to take and what you can actually achieve based on the amount of money you have to invest and where you will end up, assuming  a realistic rate of return.

 

Know the risk and volatility involved in stock investing: Perhaps the most fundamental and important concept to grasp is the potential risk of losing your money. It’s easy to make poor decisions and lose everything, if you’re not careful. A concept closely correlated to risk is the concept of volatility. Volatility in stock investing refers to the frequency and magnitude of price movements in the stock market. It represents how much and how quickly the value of the market tends to change over time. When stock prices swing significantly, both up and down, the market is considered to be more volatile. The primary measure of volatility is the standard deviation, which will be addressed in another lesson.

 

When I first started investing, I spent the week between Christmas and New Year’s reading everything I could find about investing in the stock market. Then I put that knowledge to work determining which one stock would be the best for me to invest in. I concluded that I would invest in Delta Airlines because the stock price had dropped so low that any upward movement would yield a nice gain. So, I met with an agent at Scottrade and bought $6,000 worth of stock. Within a few days, I got a call from the agent who said I should sell all my stock in Delta Airlines because the word on the street was that it was going to declare bankruptcy. I couldn’t believe it. My first stock trade and already I was faced with the prospect of losing money. I headed for Scottrade’s office and, with the help of the agent there, sold all the stock at a loss of $1,500. Had I waited two more days, I would have lost everything as the stock plummeted to zero. What a disaster! Since then, I’ve been very careful about how I invest in the stock market.  

 

One of your greatest assets in stock investing is knowledge, which includes knowledge of the company you’re investing in as well as knowledge of the market and the economy. Here are some key factors to keep in mind:

 

  1. Know why you want to invest in stocks. Are you seeking capital appreciation or income in the form of dividends?

  2. Know why you are buying a certain stock. Do your research to make sure you’re purchasing an interest in a company that is worthy of your business.

  3. Know how the economy could impact the value of the stock. Look at the big picture to understand how the economy, and the world for that matter, can affect your stock investment.

  4. Know how to analyze a stock. Today there are some great stock-screening tools but regardless make sure you understand how to determine if you’re buying a good stock.

  5. Know how to protect yourself. Be prepared for the risks and volatility of owning the stock. Have a diversified portfolio so that you’re prepared for any downturns in the market.

  6. Know how to time when you buy and sell. Economic analysis and technical analysis can help you analyze the security base on market activity (past prices and volume) to find patterns that suggest where your investments are heading.

  7. Know how to keep more of the money you have earned. After you have gone through all the hard work of picking the right stocks, you want to know how to maximize your return, so you can keep more of what you’ve earned.

 

By keeping these investment basics in mind, hopefully it will help you earn more money by picking the right stocks and then keep more of what you’ve earned.

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