Knowing these basic rules for investing will help you to achieve success.
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You cannot earn your way to freedom. You need to invest and make your money work for you.
This is the simple truth that the rich know, and that the poor ignore.
Investing is the way you get free.
I used to be one of those poor people that didn’t really know what the whole investing game was. I should of; I was highly educated and I had the ability to learn and ask questions.
However, it seemed like a scary mystery world, where those in the know got rich and the rest of the poor hopefuls got poorer.
Then I got smart, and about a year ago, with a lot of support and guidance from my lovely wife, we became investors.
Read on to learn our basic rules and see the smart and safe way to begin your mission to success.
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We started by getting involved and learning on the job, as it were.
To begin with, we had to face some big failures and some very tense times. However, we learnt our lessons from these tough experiences and we learned how to play the game. We developed our own principles for investing. These principles, combined with experience, led us to develop our five rules on investing.
What I have learnt since, is these are actually the initial rules for passive investing. Nonetheless, they are a great place to start if you are very inexperienced and a bit nervous about taking the risk with your hard-earned dollars.
The Five Rules for Passive Investing
Passive investing means that you make an investment that requires very little effort to set up and next to no effort to manage. You are not required to do a whole lot of extensive research, or keenly observe every movement of the stock market. (Or whichever market you are investing in.)
You simply follow the basic formula, set up your portfolio and monitor your investments.
Of course, it’s a bit more complicated than that, but not really by much.
Here are the five rules we established by trial and error.
First Rule For Investing: Pick Good Companies
We didn’t have a lot of capital to spare in the beginning. And we didn’t have much experience at all. Therefore, we decided to keep it simple.
Therefore, this blog is very much for those early, or prospective, investors who are just starting out.
Well, we didn’t have a lot of capital. So we had to start small. We started with shares. Shares are relatively easy to understand, purchase and trade. They are relatively liquid and you can start with limited capital, and if all goes to plan, you can build up to bigger investments.
Starting with shares, we found the first big lesson worth learning is that shares are just a piece of a company. If you pick a good company, a safe company, then you can feel safe that your money isn’t going to disappear. The only way your money will disappear is if the company disappears. So pick a good company.
What is a good company?
We still aren’t sophisticated to get too analytical, though that is definitely a lesson for the future. However, we run a very simple test. Does this company make a profit? Do they distribute profit as dividends? Does it make enough money to cover its debt obligations? Will it be around in fifty years?
Without going into too many particulars, I think you can imagine the type of stocks that are safe. Wherever you’re investing, it’s obvious what the good companies are. Companies like banks, retail, textiles, and as much as I hate to admit it, resources companies, like oil companies. These are to name a few.
However, those few are enough. You don’t want to own a tiny piece of lots of companies. You want to own a small piece of a few companies. Companies you know will be around for 20-50 years. You can rely on them to keep growing. In addition, you can expect a percentage of their profits as dividends, and reasonably expect an increase in value over time.This way, you buy your piece of the company and you hold on. You collect income from dividends and when you sell, you make a gain.
We’re not experts yet, and from what I’ve learned of derivatives and other such ‘securities’ I’m staying away. I’m sticking with the good, safe companies I understand and I can trust.
Second Rule for Investing: Take a long-term view
The next big rule is to take a long-term view.
If you are worried about your stock every minute, that kind of stress will drive you to be stupid.
If you are relying on a profit in a day, week, or even a few months, then you are at the whim of the market. That’s a stressful place to be.
That’s the place we used to be. It causes stress and poor decisions.
We used to ride every movement, and worry. Every time the stock was up, we worried ‘should we sell, now?’ When it was down, it was like ‘oh my god we’ve lost our precious money’. This kind of mindset leads to rash buying and panic selling. That will destroy your portfolio.
That is not the way to invest.
The Long View
Once we took the long view, we stopped panicking.
By investing in good companies, the type of companies we know will be around for the long term, we can have faith that we’re not going to suddenly lose all our money.
We know that share prices naturally go up and down, but good companies generally end up going up in the long term. Companies like those old favourite blue chip safe companies you know will be successful in the future.
On the other hand, if you want to be extremely safe, you can invest in a safe quality index fund, like the S&P 500, and be safe that within that selection of companies you will get acceptable growth over time.
The value of looking long is that the economy is always expanding. It may go through times when it corrects of contracts, but in the long run, it has always come back and it has always gone up.
Therefore, if you pick the good companies, you can ride out the ups and downs and look far into the future to see a long-term growth. Kind of like property. It will go up and down, but if you hold on long enough, you are pretty certain of seeing a good return.
So by playing long, you cut out the biggest error initial investors make. Which is, they panic. As soon as their shares take a dip, or the market shifts, they panic and they sell. However, if you buy safe and look long, you can choose to hold on and wait for the right time to cash in.
When you look long, you know temporary pain does not mean a loss. It just means you have to wait for the cycle to come around.
Disclaimer[Again don’t take this as direct advice – these are lessons that seem to be working for us – you should always follow your own good judgement and seek advice from professionals if needed.]
Third Rule of Investing: Study, Study, Study
The only way to win is to know.
“Knowledge is potential power.” It gives you the potential to do the right thing. But you need to be in the game, if you actually want a chance to win. My advice if you are getting in, is to study like crazy and become an expert.
(This is kind of the advice I’m following here. I have no idea how to blog, I’m in and trying and learning every day. Same with investing, we started and learnt every single day.)
Know the Game
As an initial investor, we had a little knowledge about investing, but we didn’t really know the game. You need to understand how it all works. Now we’ve got some experience, we’re starting to understand how shares behave, and how investors behave and know how to follow the market and read the news and how it corresponds to real action.
You have to know the market if you expect to play it and make consistent returns. If you approach investing as if it’s a gamble, like it’s all about getting a good pick and hoping for an epic win, then you will lose. However, if you approach it as a study or as a job, then you will learn everyday how to get better, and you will learn from all your mistakes, until you become a lot more confident and capable at making regular returns.
Know your stocks
You need to pick good companies you like, and then take them on as though they are businesses you own. You should understand their operations and base measurements and watch how they behave in the market. Once you have spent a year or more watching the same stocks, you will start to know how they are performing. You will know when they are cheap and when they are expensive. Moreover, you will be aware of important issues that you may need to react to.
So know your stock and the industry. It’s once you become an expert that you have a chance to make smart decisions. And smart decisions are what lead to gains.
Forth Rule of Investing: Buy Low, Sell High
Big rule from following the rest.
You make money by buying when a stock is low and selling when it is high.
Watch the stock over time.
Buy when it’s low and sell when it’s high.
If you watch a stock over time, which is what you should do by studying what you’re doing, you will see the price of that stock will fluctuate. \
In this extremely oversimplified diagram, you can see how a stock ‘moves’. In the uptrend phase, you can see how the stock price goes from low (1), up to a high (2), back to a low (3), then up to a high (4).
This same pattern repeats in the downward trend. The stock price will fluctuate. This is a symptom of supply and demand – when the stock price falls, more people will be willing to buy, and when it gets too high, then more people are willing to sell. Therefore, the price fluctuates up and down.
The idea is to buy when the stock is at a cheap point, say $1, and sell when it goes to a high point, say $1.20. This way you make a profit of 20c on each share.
Of course, you need to take into account taxes and commissions. However, we’ll keep it simple here.
Again, if we take a long term approach, the idea is to buy when the stock has hit the bottom of a downward trend (thus being very cheap), then hold it for as long as it takes and sell at the top of an upward trend. For example, you want to buy at point 1 of the upward trend and sell at point 4, or point 6.
Knowing how to do this is quite advanced. And we’re just starting to understand the process. And to be completely honest, we don’t know how to read all the inputs into the market, and I’m not going to pretend that we know how to time it.
However, after watching our three or four main stocks for two years now, we have started to see when the price is lower than usual and when it’s higher than usual. We take those measures and gage what else is happening in the market and in the news and make a judgement call, whether it’s a good time to buy or to sell.
This approach has worked for us, but again, we buy safe, good stocks, and we’re prepared to hold on if anything goes wrong in the short term.
So far, we started with mixed results, but as we’ve gained experience, we are now beginning to know when a win is likely, when to hold off, and when to have a go.
You will notice the very colloquial language used here. We’re not experts, but if we can learn to build our investing game, and knowledge, then so can you.
Fifth Rule of Investing: Don’t Lock in a Loss
Following on from the previous – when it is low don’t sell!
That’s when you lose.
If you have good stocks and you can wait the market out, it will nearly always come back. You need a little faith, but at the end of the day, I know the human race isn’t going out of business. The US isn’t going out of business. And here, where we are now, VietNam is a country on the rise, with 90,000,000 people who aren’t going out of business.
That’s why we buy good companies and we play long.
So we never have to take a loss.
The companies we bank on are the ones that people need. Therefore, they will last.
However, there’s a proviso we need to add to this – don’t over extend your position.
(A quick lesson in debt.)
Be wary of leverage and debt – don’t over extend the margin.
A margin is like a small debt that brokers will allow you to access so that you can extend your position in the market.
It’s pretty much a loan.
In the beginning, we thought it was great.
We had $10,000 earning 10% (Very rough approximation). That meant an increase in the value of our money to $11,000. However, we were using a margin of $10,000. That meant we had $20,000 invested. This made 10% – so we had a profit of $2,000. So after we paid back the margin, we had $12,000 instead of $11,000.
The margin allowed us to double our return on investment.
A painful lesson:
However, we weren’t really aware of how it worked.
So we used the full margin, effectively doubling our investment. Then the market went down. So our shares, instead of being worth $20,000, were then worth $18,000. Instead of a 10% loss on $10,000 = $1,000, it was a $2,000 loss. Then as the market looked like going down even further, the broker put in a call margin. Pretty much demanding repayment of the principle immediately. Which meant we had to sell, or find extra capital. Add to that, we had to pay interest for the margin.
A long story short, we had to sell and take an exaggerated loss.
Had we held on, all our money would have come back.
So the big lesson, be weary of using debt and over extending your position.
Hope these lessons help. The big lesson is that, you can’t earn your way to freedom.
If you want to be free, investment is essential.
It’s not easy, and it can be scary, but if we can learn it, so can you.
If you are dreaming of becoming free and one day living a free life, then you need to make your money work for you.
Again, thankyou for allowing me to share, I hope these have been some thoughtful ideas to help you start thinking about your future.
All the best to you all and remember to always keep striving for success.
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