Learn these stock market basics, and you’ll be well on your way to making smart investment decisions.
Whenever we learn a new skill, there are certain foundational elements that make everything else possible. These are the basics. When we learn to write, we first learn the alphabet. When we learn to drive, we first learn how to adjust mirrors and where the brake pedal is. And, you guessed it, some stock market basics come in pretty darn handy when you’re starting to invest.
I know everyone wants to “know” what the hot stock is and how they can make a fast million. For most investors, however, that’s just not how this works. Sure, there is the occasional lottery winner, but there are a lot of heartbreak stories, too. You can’t have one without the other.
We would love for you to be that lottery winner, but what we really hope you get from us is how to make steady, long-term profits. More than that, however, we want to help you avoid becoming a heartbreak story. Investing can be fun, lucrative, exciting, anxiety-inducing, frustrating, and everything in between. But with a few stock market basics under your hat, you can keep your risk to a minimum and still have the potential for handsome profits.
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The basic basics
Let’s go over the very basic stock market basics real quick. There are a lot of investment products, from stocks to options to ETFs to Mutual Funds and more. For our purposes here, we’re sticking with stocks, which is like buying a tiny portion of a company. As a stock price increases (or decreases), your investment also increases (or decreases).
To invest on your own, you need to set up an account with a broker. There are many online brokers and investment apps, all of which have their own unique characteristics, whether that’s a zero minimum balance or comprehensive educational tools.
To buy a stock, you enter the number of shares you want and enter the request. Selling is pretty much the same process.
This information is all easy enough to find. But you don’t want to just go buying and selling stocks every time they go up or down a percent or two. Nor do you want to buy stocks that have no future. So here are some of the things you need to know about.
Don’t even think about investing until you know these stock market basics
1. Don’t be afraid of ETFs. Our preference at Cabot is for individual stocks. This is because they generally offer better rewards than ETFs. (An ETF, by the way, is an exchange-traded fund. It’s basically a basket of stocks that follow an index, like the Nasdaq, or a particular industry, like electric vehicles.) But those rewards come with more risk. While an ETF may not give you the big gains of an individual stock, many of them offer a dividend (a payout of profits to investors), and their diversification provides some degree of safety.
2. Don’t be afraid of individual stocks. Individual stocks can help you make a lot of money. Just look at the rise of stocks like Tesla (TSLA) or Microsoft (MSFT), both of which were selling for less than $50 a share just five years ago. Be aware, however, that there are also cautionary tales here. For example, Macy’s (M) has been trending steadily down since the middle of 2018. Fear not, though! There are ways around this problem.
3. Check the stock history. There’s a lot more to a company than its stock price. At the same time, the historical stock price is also one of the easiest stock market basics to explore, and it can give you a general idea of how stable a stock might be. Here’s what Yahoo! Finance looks like for General Motors Company (GM) for five years. As you can see, the stock held relatively steady for a few years, dropped like everything else in March of 2020, and has risen since then.
4. Read the financials. It’s not complicated. Trust me on this. It “sounds” like some big scary thing, but it’s not. And I get that looking at company finances isn’t everyone’s idea of a good time. (Although I’m not sure why; it can be fascinating!) But you don’t have to dig very deep to get a general overview of a company’s financial health. If you invest through T.D. Ameritrade, this is what the fundamentals look like for Southwest Airlines (LUV). You can see they’re mostly positive, although they had much lower revenue in 2020 and also had negative cash flow that year. No surprise, of course, give the circumstances.
5. The stock market doesn’t care about you. This can be one of the more unpleasant stock market basics to learn, but the sooner you understand it, the better off you will be. You might feel like stock X is bound to go up. It might be on every social media feed. It may be on the news. You’ll hear all about the company on the financial news or from commentators. Maybe you even sunk your entire paycheck into stock X because you have a good feeling about it (Pro Tip: Never do that). The sad truth is that the stock market doesn’t care. It’s more than happy to take your hopes and dreams and money and walk away. This isn’t just a doom and gloom story, though. This news gives you the freedom to make decisions based on cold, hard facts. You don’t have to worry about hurting anyone’s feelings or being embarrassed. The numbers don’t lie.
6. Diversify, then diversify some more. While some ETFs have diversification built in, not all of them do, and certainly, individual stocks do not. Diversification spreads your money around, so even if one stock isn’t performing well or loses ground, you still have several more stocks that could make money for you. Think of it as a garden. If you have tomatoes, peas, squash, cucumbers, and corn, and the tomatoes get blight and all die, you’ve only lost 20% of your garden. If you only have tomatoes and cucumbers, and your tomatoes die, you’ve lost half of your garden. And if you only grow tomatoes? You can see why diversification is important.
7. Have patience. Investing success takes time. This isn’t a get-rich-quick venture. Choose your stocks carefully and give them time to work magic. That doesn’t mean you should hold onto stocks that are dropping like rocks in a lake. But don’t sell good stocks just because they aren’t moving fast enough or far enough.
The good news is that you don’t have to do any of this alone. Browse our website for valuable investing tips and lessons, sign up for our daily emails, download some of our free reports, or explore our premium advisories, where we give you detailed advice on investing to meet your goals.
What advice would you share with someone just starting to invest?
