How to start investing in the stock market: What to invest in?
Recently, an acquaintance of mine asked me point blank how to start investing in the stock market. Specifically, he wanted to know what I will recommend investing in right now. So this is both a simple and a complex question. But since it directly affects our 3rd pillar towards financial freedom, you might be interested in the answer too!
In this article, we will think about what it would be interesting to buy when you start to invest in the stock market. For more practical questions on “how” to invest in the stock market, I recommend our previous article.
Let’s define our parameters to start investing
Well this is the more off-putting part, I agree but this one remains important. I am going to have a bit of the same speech as a banker, but we will say that in some cases they are not entirely wrong.
Before you start investing in the stock market, it is crucial to do your own soul-searching. By this I mean that it is important to think about several parameters. These will be important when investing in the stock market.
- Tolerated risk: It is crucial to know the risks that you are willing to accept and tolerate when you invest in the stock market. It is an activity that remains risky but the different investments available to you may have a difference in risk. Afterwards, the risk is always to be balanced with the reward. Remember, low risk, low reward. So less interesting returns (think of the savings account where the risk is practically zero … like the associated interest rate)
- The time horizon: If you are starting to invest in the stock market, you should also think about the time horizon in which you would like to get your money back. In any case, if you want to start investing in the stock market, you should ideally have a horizon of several years. Less is also quite possible, I am thinking in particular of the case of trading. But this article will be more oriented towards a stable investment as a good father.
Different types of investments possible
There is a large list of possible types of investments. Please note that the list of those cited in this article will not be exhaustive. But let’s see together the most common in terms of stock market investments.
More specifically, it is a financial asset representing a debt on the part of a company, or even a state which therefore commits it to repay us the capital in addition to the interest. The advantage of this type of investment is that, except for bankruptcy of the company or the state, the income is guaranteed and fixed.
It is the most famous financial asset and the one that we think of directly when thinking of investing. It is therefore a title to a portion of the company’s capital. This allows you to become part owner of the company. In this case, the earnings are absolutely unknown, and dependent on the share price in the market. Besides realizable capital gains if the stock gains in value, it is also possible to receive dividends. It is on the one hand the profit of the company distributed among the various shareholders.
It is a financial vehicle, managed by a financial body, which will therefore hold a whole series of shares and bonds or other financial assets. The general idea behind this is to have a group of people who will invest in this fund and buy shares of it (like stocks). Thus, the investor becomes part owner of the fund in the same way as if he had bought shares in a company. This explanation is taken from our comparative article between mutual funds and trackers that I invite you to read for more information.
Again I refer to our article on the subject. The difference with investment funds is that ETFs are often “index funds” in the sense that they will model themselves on a stock market index (CAC 40, S&P 500, etc.). We often talk about “Tracker”. The advantages and disadvantages of this type of financial asset are relatively similar to those of investment funds with a few exceptions (especially in terms of management and associated costs)
Options and other derivatives
These are products that add a new layer of complexity that we will not discuss in more detail. But this is a purely speculative investment where we will for example sell the right to someone to buy X shares at price Y on a given date. The person buys this right and can on the given date decide to use it (if the share price is higher than the one committed) or not. There is a whole series of derivatives of this kind of possibilities, if that interests you I can make a separate article on this subject.
What I would invest in if I had to start over
This brings us to the original question and the real information that my acquaintance wanted to have. I would like to remind you once again that the ideal investment depends on each one and its parameters (mentioned previously). Moreover, I absolutely do not claim to be a financial advisor. All I explain in this blog is my reasoning and my opinion on the matter. I invite you especially not to stupidly follow what I say but to carry out your own research in all cases.
So in addition to being what I would invest in if I had to start over, it is also what I still partly invest in today.
In my opinion, the best investment to make would be to invest in an ETF replicating the behavior of the 500 largest American companies, namely the S & P500 (the “VUSA” ETF in particular). In the rest of this article I will explain the reasons for this choice.
As is the general rule we hear for any investment, you should not put all your eggs in the same dish in order to reduce the risks. When you start to invest in the stock market, obtaining this diversification is not so easy. In fact, when you start, you want to get into the bath little by little and therefore start with a smaller amount. Unfortunately, this amount often does not allow us to invest in enough stock to have a healthy diversification.
The VUSA ETF makes it possible to obtain this diversification directly. By buying a share of this ETF, you directly obtain a distribution across the 500 largest American companies. Difficult to do better to get started.
Of course, this kind of product must have a counterpart which results in certain costs. Indeed, it must be well managed (even if it is practically passive since it is a simple replica of an index). But it is precisely because the management is simplified that the costs are really minimal. We usually talk about less than 0.5% per year, for VUSA we talk about costs of 0.07% per year. This is nothing at all compared to mutual funds generating fees of more than 2% per year for the same diversification.
The risk is still very present because we are talking about actions. Nevertheless, we are talking about the shares of the 500 largest American companies. If we compare the risk that these companies represent compared to a startup, the nuance is quite clear. Where do you think the risk is greatest? Where is Google at a startup? In addition, even if in the event that one of them were to experience bankruptcy, it will only represent a tiny portion of the ETF’s portfolio and will therefore only impact you slightly.
Even so, let’s say that the mutual fund generates 1% more profitability than the index. What you would lose in management fees would still make the index significantly more attractive than the fund.
Why fight against the market?
The only real point of investing in individual stocks rather than an index is in trying to beat the market. This is why people invest in mutual funds managed by professional fund managers. Indeed, these people are paid to get the maximum return possible, so they should beat the market right?
It turns out that in the long run, even the best fund managers fail to beat the market. Warren Buffet also won a million dollar bet in 2007. He bet that an ETF would beat a series of mutual funds over a 10-year horizon.
The worst part of all this? This is because the ETF costs significantly less than a mutual fund (see previous point). So how can you hesitate?
The most beautiful in all of this? It is that it allows a totally passive approach. It is no longer necessary to waste hours analyzing stocks to find the best (and risk being wrong). All you have to do is buy VUSA shares on a regular basis and this way you invest your funds in a correct way, which can surpass mutual funds (see previous point).
Some platforms (such as Trading 212) even allow this reinvestment to be automated. This allows that every month, X euros are invested in this ETF without you having to do anything!
You will understand, I am a fervent defender of this investment, which I would recommend to anyone who wants to invest in the stock market without much knowledge (and even to those with good knowledge). And if you don’t believe me, just believe Warren Buffet who remains one of the richest men in the world and who recommends this investment. So, it’s not the action that will make you rich overnight as everyone hopes, but it is definitely an investment that will make your money grow significantly compared to a savings account.
As a reminder, I am not an investment or other advisor. What I explain in this article is only my analysis. I invite you to do your own research to confirm what I am saying.