How much money do I need to invest? How much do I put in to invest? What should I invest in? These are common questions when you first start to invest. Previously, we covered why we should be investing and what the risks of investing are. If you haven't read them, do check them out first!

Chapters in this guide:
Part 1 - Why Invest?
Part 2 - Risks And Asset Types
Part 3 - How To Start Investing
Part 4 - Understanding Returns
Part 5 - Investment Strategies
Part 6 - What Stock To Buy

In this part, we will be covering what the prerequisites of investing are, when you should invest, what your first investment should be as well as what you should expect out of investing. Let's begin!

How much do I need to invest?

If you are just starting out, it's easy to be intimidated by this question. I only have X amount of money, is it safe to invest? In part 2 of this guide, we learnt that investing is inherently risky, so you should be prepared to lose some of whatever monetary amount you've put into the market.

Ordinarily, the risks aren't so high that you lose all of your capital, but you could certainly lose a large chunk of your money. Therefore, you should make sure that whatever you put into the market is something that you can afford to lose. Before investing, make sure of the following:

  1. You should have at least 6 months worth of savings. 6 months worth means that the sum of liquid (spendable now) cash flow you have can sustain your fees and obligations for 6 months. In case you lose money in the market, or are retrenched from your job, you need a basic safety net such that you can still have time to find a new job or make more money.
  2. You should not need a large sum of cash in the near future. Ideally, you want to keep money in the stock market so that it can make more money for you. If you are forced to close your positions (sell) because you desperately need the cash for something else, you could be forced to take a loss in your investment. Therefore, make sure the money you invest with is money that has no other use.
  3. You have bought one or two insurances. We never know what accidents could occur. Having an insurance protects us from these unintended mishaps which could drastically increase our expenses. Get an insurance to safeguard yourself before putting money into the market. Additionally, in the 6 months of savings above, remember to factor in emergency costs like sudden hospitalization or illness, for you AND your family and dependents.

If you have fulfilled all three criteria, great! You are ready to start your investment journey. In truth, it doesn't matter how much you have to invest. Every little bit counts. Our goal here is to make our money work for us - so make every cent you can afford to invest with work for you!

Choosing a brokerage

In part 2, we covered three common asset types, stocks, bonds and real estate (REITs and physical real estate). Barring physical real estate, all other investment products require you to go through a broker to buy and sell. Brokerages are basically companies which help you to execute trades with the market by routing your trade requests to the exchanges.

We have made a comprehensive guide (for Singaporean investors) to compare the offerings of brokerages so that you can make an informed decision about which brokerage(s) to choose for your investing journey.

When choosing a brokerage, important things to take note are the commission fees which are charged for every trade and other hidden fees. These can include dividend handling fees, transfer out fees and currency conversion fees. Read more about them in our article linked above! These fees add up and cut into the returns of your investments, so we naturally want to minimize them. In fact, an extra 1% in fees can mean an extra year before you can retire!

Other factors to take note of when choosing a brokerage is their platform - how easy is it to trade with them? Can you trade both on mobile and desktop? Is their customer support good? Do make sure your brokerage hits all of the points you want before choosing to stick with them!

We like to use Interactive Brokers for our international trades. If you would like to sign up for an Interactive Brokers account to trade and are willing to support us with no extra cost to you, kindly contact us for a referral!

A quick note about commissions - while we should try to minimize commissions, do note that commissions aren't everything. You may have heard of people saying that you should trade with at least X amount each time to minimize the amount of commissions you have to pay as a percentage of that trade. Personally, I do not feel that this should be the case. Let's look at an example where we have two different commissions ($10 flat and $20 flat) with a trade value of $2,000.

Fees Stock goes up Stock goes down Stock goes up Stock goes down
2,000.00 2,000.00 2,000.00 2,000.00
(Commissions) (-10)
1,990.00
(-10)
1,990.00
(-20)
1,980.00
(-20)
1,980.00
Capital gain/loss (+100)
2,090.00
(-100)
1,890.00
(+100)
2,080.00
(-100)
1,880.00
% of original amount 104.5% 94.5% 104% 94%

You can see that the commission almost makes a negligible difference in your percentage returns at small amounts of trade value, especially since this is a one time fee (only when you buy or sell). Of course, when you trade larger amounts, the commissions are going to matter a lot more if your commission is calculated on a percentage basis and not a flat rate.

Therefore, when picking a broker, don't worry too much about the commission fees. Yes, you will want to minimize fees as much as possible to maximize your returns, but it's also important to pick a broker that you are comfortable with trading with as well.

In the end, it is the capital gains and/or dividend payouts that really affect our returns, and should be our main focus in investing. That said, do look out for recurring fees. If you are paying a percentage of your investment value every month, you are losing a HUGE chunk of your returns in fees. In summary, don't sweat the small, one time fees, but minimize the larger, percentage based recurring ones.

When should I start investing?

Now that you made a brokerage account and are at a stable cash position to be investing, you might find yourself asking this question. When should I make my first purchase?

The answer is simply: The best time was yesterday, the second best time is now. Time in the market beats timing the market. The more time your money spends working for you, the more returns you're going to get. If you keep worrying that the market will crash and never start investing, you will lose out on all the gains that you could have been getting over time. We call that an opportunity cost.

It can be intimidating to put in money when you see the markets at an all time high, but all time highs are actually quite common. In the year 2019 alone, there were 22 all time highs. In fact, there are around 15-50 all time highs hit every year historically. Now, that seems like a very high chance of you buying in at an all time high, but then again, the market's going to hit another all time high not much later down the road.

Know that over time, the markets will recover and continue to grow. Putting in your money now means giving it the time it needs to grow. Recessions are rare and you can almost never predict when they will happen. All time highs in the market, on the other hand, are much more common. This means that statistically, your money will grow more than it falls! The best time to start is now.

Understanding the time value of money

Let's take a look at this concept in closer detail. What do we mean by time in the market beats timing the market? Simply put, the market is always growing. Dips in the market are temporary, but growth is forever. This means that any amount of money you put into the market (and in a well managed company with good finances), will always be growing.

Think long term. In the short term, prices are always moving up and down. There may be large dips and uptrend, but over the long term, these smooth out into an upwards growth. The more you invest into the market, the more money you'll have growing for you in the long term.

Go search for your favorite stock online and view its share price history in a 5 or more years graph. The price almost always increase significantly.

Graph of Microsoft's stock price growing over the years.
Microsoft's stock price growing over the years

If you've ever seen a company's stock and went:

I should have bought this years ago, I would have made so much money!

Well, the next best time is now. In 10 years time, you would be at that peak looking back at the growth. We must reiterate this: The best time to start is now.

What investment product should I buy?

Your next question will probably be what should I buy? It's a tough question for beginners starting out in investing. There are so many choices, bonds, stocks, real estate etc... which investment product should I pick? Which company should I buy?

The answer to this question is determined by your own risk profile and personality in investing. If you haven't already read part 2 of this guide, do give it a read and determine your risk profile. You will then determine your portfolio allocation based on how much risk you are willing to take on.

Another factor is how much time you have to put into investing. If you are busy with a job, or school, then you won't have much time to study the market, read company financials and all that. It would be wiser to place your money into safer, more stable investments. These could be exchange traded funds or robo-advisors, which require little intervention or knowledge of the market on your part. For beginners, we would recommend index funds.

Conversely, if you are a more active trader, you might want to look at things that may require more active management such as stocks and real estate. These require you to study the financials behind the investment product, and come up with your own valuation of the underlying asset.

Let us explore these options in greater detail.

Investments for the passive investor

Exchange traded funds

Exchange traded funds, more commonly known as ETFs, are a collection of stocks, commodities or other assets. They function by tracking an index (another collection of assets) such as the S&P 500, a collection of the top 500 companies in the US market. This means that if those 500 companies are doing well, an ETF that tracks it, such as CSPX, will do well and vice versa.

Exchange traded funds are called as such because they can be actively traded in the stock market like any other investment product, with varying prices throughout the day. The only difference is that by buying into an ETF, it's akin to buying small amounts of every single asset within that ETF! If you were trying to achieve this without an ETF, you would have to manually purchase small amounts of every single asset you wanted, which would be both costly and unmanageable.

ETFs are great in that for the same amount of money, you achieve great diversification. This makes ETFs very suitable for beginner investors who want to have diversification in their portfolio, but do not have much capital to start out. If you haven't read part 2 of this guide on why you want to diversify, do give it a read!

ETFs are what we term "passively managed". This means that the  manager of the ETF just has to buy and sell the assets within the ETF to match the underlying index that it tracks. Since the manager doesn't have to "actively manage" it by thinking about what to buy or sell to achieve maximum returns, expense fees (the fees you pay to the manager) are kept low, making ETFs a great way to diversify without eating too much into returns.

Mutual funds

Similar to ETFs, mutual funds are a collection of assets. The difference is that these are "actively managed", meaning a fund manager is picking which stocks to buy or sell in order to maximize the returns of the mutual fund. In exchange for their expertise, you will have to pay a correspondingly higher fee (sometimes even up to 7%!) as compared to ETF, which are passively managed.

Here at Investing For Two, we do not believe in purchasing mutual funds. The main reason are that the fees charged severely cut into your returns, and actively managed funds do not outperform passively managed funds either on average.

Robo-advisors

Robo-advisors can be another good way for beginner investors who want a more passive approach in investing to begin their journey with. The concept is simple - deposit your money in a robo-advisor app of your choice, and let its algorithms do the work for you in picking what to buy. It's kind of like mutual funds wrapped up in an artificial intelligence, except the fees usually aren't as high, since everything is automated.

Some robo-advisors even allow you to pick the funds you want to buy yourself, and can even help you re-balance your portfolio to suit your risk levels depending on market conditions algorithmically. Robo-advisors can be a good way for passive investors who want to deposit their money regularly and forget about it for a while.

By leaving your money in a robo-advisor, you trust the AI to do the investing for you. This helps in managing your emotions so you don't feel stressed about the market all the time! You can certainly consider this form of investing as a beginner investor, but you might want to move on in the future and take on a more hands on approach for potentially higher returns and less fees.

Investments for the hands-on investor

If you are willing to spend some time every week/month to study the markets and your favorite investment products (which you really should), you can consider investments that require more maintenance on your part.

Individual stocks

As the name says, you pick a company you like and buy some of their shares. These can give you returns in the form of capital gain as the share price grows, or in dividend payouts. We will explore more about these in part 4 of this guide to investing.

Picking out individual stocks can be risky - make sure you know what you're doing! A good rule of thumb is to only invest in companies you are confident in. Usually, that means two things:

  1. You know how their underlying business functions, and you know who their customer base is. You also know how they plan to make profits in the future and how this company is planning to grow. You understand this company's business model, and are confident it is viable and profitable.
  2. You have studied this company's financials and they are doing well. They do not take on debt that is beyond their means and have enough free cash flow to cover their liabilities. Their share price is not overpriced to the extent of insanity and you think that for the amount of money they make/will make, buying their shares now is a good investment for the future.

These two points sound simple, but in actuality are very difficult to determine. Sometimes, even when everything looks fine and rosy, the market makes fools of the wisest men. In our intermediate guide to investing, we will teach you how to read company financials, so do subscribe to our mailing list below to be the first to know when it comes out! No spam, promise!

A good starting point for beginner investors is to choose a stable and large company. We tend to call these "blue chip companies", which basically means they are financially sound and have been around for quite some time. These have a very low risk of going under and generally have a good business model. Chances are you have also used their products in your life, so you know if they will sell well!

Find a good point to buy their shares by comparing it against historical prices, and buy in on a dip. Don't worry about waiting a little. We did say that the best time to invest is now, but nothing is black and white. It's okay to wait for a dip, because dips happen quite regularly. Try to buy in on a dip in the share price for your first stock!

Real estate investment trusts (REITs)

Rather than physical real estate, we recommend REITs for the beginner investor. These are basically like real estate, except that a company manages the properties and you are buying in to get a share of the rental profits.

These can be a little confusing, but all you have to know for now is that they are primarily dividend based (they pay out their rents regularly), and generally perform quite stably because they have physical properties backing their prices.

One thing to note about these is share dilution. Explained simply, when REITs require money to purchase a new property, they raise that money by introducing more shares for people to buy. This makes it such that if you do not buy more shares, since there are now more shares in total to split the rental income with, your current holdings will be diluted. That is a risk you have to factor in when purchasing a REIT.

Before buying a REIT, do look out for several factors.

  1. Is the manager behind the REIT trustworthy? Can they manage the REIT well? Managers have to secure renters and make sure their properties are attractive enough to rent out. A good manager will allow the REIT to grow - a bad one will cause its downfall.
  2. Liquidity risks are present too. Since REITs are basically a collection of physical properties, it can suffer from liquidity issues when it is hard to find people or business to rent them to, causing a stagnation or drop in share prices.
  3. Do look out for the underlying assets in the REIT. You need to know what physical properties make up the REIT. Are they shopping centers? Homes? Business offices? Are they in good locations that will see good rental income? Use all these to make an informed decision before purchasing.

As you can see, investing can be quite an investment in itself! You will need to read a lot, understand the things you invest in, and ultimately, decide for yourself what and when you want to buy or sell. It is no easy task, but it is also a necessary task if you want to achieve financial freedom. If you haven't read about why you need to invest, do read part 1 of this guide here!

Managing expectations

While all this talk about investing is exciting, it is necessary to manage our expectations. As much as we can make money, we can lose money too. It is important to know and temper yourself with this knowledge before you start. If the prices suddenly drop after your purchase, how will you react? Will you panic and start selling to reduce your losses? If yes, you might want to calm yourself and think rationally. Perhaps safer, more stable investments might be the correct option for you.

Prices in general fluctuate a lot. Here at Investing For Two, we advocate investing with a long term outlook. As we have mentioned countless time before, temporary fluctuations do not affect long term growth if the underlying asset you have invested in is financially sound and has good growth prospects.

What you need to do is temper yourself such that your emotions do not mess with your rationality when it comes to investing.

Be fearful when others are greedy, and greedy when others are fearful.

Sometimes, the biggest drops are the biggest opportunities (such as a recession) to snap things up at a discount. Before you do anything, analyze the situation rationally, read up a lot on the situation, and make your final decision with a calm mind. Panicking while investing is one of the biggest mistakes a beginner (and old-timers!) can make, and can cause you to lose a lot of money.

Summary

By now, you should have informed yourself about whether you are ready to start investing, and should be on route to creating a brokerage account to get yourself started. After that, do dive in on researching what you want to invest in and make the final decision yourself.

Be patient and keep learning. Investing is inherently risky, so do expect to make mistakes and lose money. That said, invest safely, and invest responsibly. Think long term, and always make sure you are investing with money you can afford to lose.

When you're ready, move on to part 4 of this beginner's guide to investing, where we will examine returns in investing such as capital gains and dividends.

Understanding Returns, Dividends And Growth - Beginner’s Guide To Investing (Part 4) - Beginner’s Guide To Investing (Part 4) | InvestingForTwo
Welcome to the fourth part of our beginner’s guide to investing! By now, you should know why you should invest, how to start and the risks involved. Do check out the previous parts if you haven’t already, as it will build up a basic investing foundation for you before reading this part! Chapters in…

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