Unlock the mysteries of the investment and financial markets with this clear and practical guide for beginner investors. Learn how to conduct research, diversify your portfolio, and practice risk management.
This resource teaches fundamental stock market terms and investment strategies, including the importance of research, diversification, and patience. It also explores the nuances of market psychology and offers insights into valuation and investing opportunities.
Stocks
Stocks are the “heavy hitters” of a long-term portfolio and offer the greatest potential for growth. Stocks, which represent shares of ownership in a publicly traded company, provide investors with the opportunity to profit in two ways: either through regular dividend payments (a portion of a company’s profits), or through capital appreciation (the increase in the value of a share).
Companies issue stocks in order to raise money for investing in products and expanding into new markets. Investors buy those stocks to gain a vested interest in the company’s success. Share prices go up and down, depending on a company’s financial health and investors’ perception of that health.
A well-diversified portfolio should include both stocks and bonds. New investors may want to consider using mutual funds or exchange-traded funds (ETFs) as a cost-effective way to diversify. Stocks are classified as either growth or value investments, and are further categorized into 11 sectors and 68 industries within those sectors.
Indexes
An index is a statistical measure that tracks the movement of a basket of stocks. Investors use indexes as benchmarks to gauge the performance of market segments. Many individuals are familiar with indices through index funds and exchange-traded funds that track a particular market index.
For example, the S&P 500 index tracks the movements of around 500 of the largest U.S companies, while the Dow Jones Industrial Average tracks 30 of the largest blue-chip companies. Different indices use various methods to determine which stocks are included and how they are weighted. Some indices are capitalization-weighted, while others are price-weighted.
Although most investors don’t directly invest in indices, they are a popular benchmark for evaluating portfolios and are often the basis of passive index investing. An investment professional can explain the charges, risks, expenses and objectives of an index fund. Investors should carefully consider all available information before investing.
Price-to-Earnings Ratio (P/E Ratio)
The P/E ratio shows investors how much a company’s stock price is worth in terms of its past or future earnings. The lower the ratio, the more undervalued a stock is. A high P/E ratio can signal that a stock is overvalued, but further analysis will be needed to decide whether the higher price tag is justified.
A stock’s P/E ratio can be calculated based on historical data (trailing P/E) or using estimated future earnings (forward P/E). There are many other factors to consider when analyzing the ratio, including the consistency of a company’s earnings and expectations for future growth.
The P/E ratio is one of the most basic tools in an investor’s toolbox, but it can be misleading and should be used in combination with other research. Understanding the limitations of this metric will help you avoid getting sucked into investment bubbles or panics. The accuracy of the P/E ratio also depends on accurate market prices and earnings projections, which can be manipulated by some companies and investors.
Volatility
Volatility is a measure of how often and how dramatically an investment rises or falls in price. It is calculated by looking at the standard deviation of an asset’s returns over a specific period. Investments with higher volatility tend to experience larger upward and downward movements than those with lower volatility.
In general, more volatile assets offer greater potential for growth but also come with more risk of capital losses. Investors will therefore need to find a balance between these two factors when assembling their portfolios. Finding out your own attitude to risk is a key part of this process, and your adviser will be able to help you.
During times of market volatility, investors with cash sitting on the sidelines can take advantage of the opportunity to buy shares at prices that are below their recent highs. This can lead to strong performance when markets eventually recover.
