Safe Investing Tips

In my earlier post as part of my financial literacy series I wrote about opening a brokerage account, which then allows a person to invest (for the long term) or trade (for the short term) depending on their level of knowledge and appetite for risk. Since this series of posts is about financial basics I wanted to share a few tips on how a person can invest safely. These tips are based on my experience of investing in brokerage accounts (including retirement and non-retirement) for 25 years. I know that some people who are impatient in terms of their desire to build wealth will scoff at my advice but I do know whereof I speak.

Early on when investing I did things the risky way because it’s what I thought all the big shots in investing did and I found out quickly that for every win that makes you money doing risky things there are bigger losses ahead. In addition to that if you use your brokerage account in a risky way you are exposed to the silent killer known as stress. Stress creates a vicious cycle whereby you’re likely to make more and more questionable decisions that lead you to financial disaster. Thankfully, my desire to avoid heavy losses and the stress that comes with them tempered my desire to get rich quick and for at least 25 years I’ve been investing safely using the tips listed below.

• Be an investor, not a trader. What’s the difference? Traders are looking for quick wins by jumping in and out of the market to make quick profits. To many people the world of trading sounds sexy but the reality is much different. There’s a lot of stress involved and a lot of time is required to be spent on research and watching positions that the trader hopes will make them a profit. I’ve worked with people in the energy trading space and it’s very similar to trading stocks. The people involved are high strung and not necessarily very happy. Their mood depends on whether they are up or down financially. It’s the same for stock traders. Most people who trade as a hobby to try to get rich lose money and end up doing the exact opposite of what they were trying to do because they end up poorer than when they started. Investors buy securities and hold them for the long term, understanding that even as ups and downs in the market occur their wealth will grow.
• Invest only money that you have and do not need in the near term. People who are impatient about growing wealth will take chances and over invest even when they plan to stay in the market for the long term. Examples of this include putting daily expenses on a credit card so that you can invest more than your budget would normally allow in a given month. Another example is people using student loan money or loans from family or friends to invest. These approaches are more common than they should be. Using such practices forces a person to have to act like a trader even if their intention is to invest as they hope to use profits to pay off their debts. In the event that the market has a few down weeks or months it could throw a person who does this into a financial death spiral. The same goes for money that you can spare now but may need within the next 1-2 years. If you’re saving for something specific in the near term it’s better to park that money in a High Yield Savings Account (HYSA), money market fund or Certificate of Deposit (CD) where your initial savings amount is guaranteed. An honest monthly budget should drive the amounts that you invest and not the impatience of wanting to get rich quick.
• Focus on investing in simple things that you understand. Mutual Funds are the most basic thing you can invest in over the long term. Each fund has a collection of stocks, and may include things like bonds, treasury bills or even some cash. The most basic Mutual Funds are Index Funds that track indexes like the S&P 500 and NASDAQ. You can’t go wrong with an Index Fund over the long term. Exchange Traded Funds (ETFs) are another option that are like Mutual Funds except ETFs are traded like stocks where the price fluctuates all day long and your purchase happens quickly. Mutual Funds have their price set at the end of the trading day and you’ll likely get your confirmation the next day. There are Index ETFs just like there are Index Mutual Funds. Some people prefer ETFs because they typically have lower expenses than Mutual Funds but beware the urge to trade with ETFs since they can be traded like stocks. Individual stocks are a more risky bet as a piece of bad news can drop a stock significantly in one trading day. Whereas if a stock drags an index down the index will fall much less than the individual stock itself because of the other stocks in the index. It’s true that if multiple stocks in an index fall that the index can fall quite a bit but over time indexes have shown to be a great investment.
• Avoid investing hacks pushed by financial influencers and get rich quick personalities. Margin trading and options trading are two popular hacks pushed by…well…hacks! Margin trading involves borrowing money from the brokerage to buy more stock than you can afford. This clearly violates my second tip above. It also requires you to pay interest to the brokerage on the money you borrow and exposes you to significant losses if the stocks you purchased drop. Financial influences will regale you with the tales of their big wins using margin trading but will rarely (if ever) fill you in on their disasters. Options are another popular short cut that involves paying money to have the option to buy or sell a stock at a certain price. It’s basically a bet on the direction of a stock. Whether it’s margin trading or options trading you’re now exposing yourself to all the risks of a trader, including having to watch the market like a hawk to ensure you don’t lose your shirt and all the stresses that come along with that. In addition, practices like these expose you to having to pay high commissions for the trades in addition to much more complicated tax filings. You’ll put in a lot of effort and take on a lot of risk for very uncertain results. Which means it’s just not worth it!

Okay, so what do I think is safe in terms of investing? First, have your monthly investments driven by your monthly budget. Only use extra money that you don’t need for an emergency fund or other fund for something specific in the near future. Don’t avoid paying off debt to clear up some space in your budget to invest either. All debts except perhaps your mortgage (if you have one) should be prioritized before investing. I know that many people will disagree with this advice. I also know how I felt when I violated this advice years ago when the market tanked in 2008-2009. I wished so much I’d have paid off more debt rather than floating more money in the market. Paid off debt is money in the bank! If that makes any sense. Second, pick one or two Index Mutual Funds and split your regular investments between those funds. Third, continue the first and second steps as long as your budget allows for it. Do that for a few years and you may be surprised at how much money you accumulate. It’s true that if those years are poor years in the market then you may be disappointed but history has shown that the longer the investing timeline the better the results will be. It’s important to remember that if you’re reinvesting dividends and capital gains (and you should be) that your investments will grow even faster. Not lightning fast mind you but at a nice rate.

If you think that you don’t have years to invest because you want (or need) big profits now then I doubt you’ll want to take this advice. That’s okay. Best of luck to you. If you are determined to truly invest with patience then this advice is definitely for you. While you’re doing that nothing says you can’t become more savvy regarding the available Mutual Funds and ETFs so that later on you can expand your investments. The most important thing if you’re either just starting out or starting again is that you build the habit of budgeting the right way and investing the safe way. Reinforcing the basics will take you a long way.

One thing I do want to warn you about before the post is done is to fight the urge to raid your investments just because you notice how much they’re growing. One pitfall people can become victim of is thinking that they have to find ways to spend money that has accumulated. No way! If it so happens that you can cash out some investments to help fund a house down payment, pay off a mortgage or meet some other critical family need then that’s okay. Try to avoid coming up with ideas to spend your investments on just because you have the urge to enjoy some of your profits. Be intentional about investing and be intentional about how you’ll use the gains from your investments. Happy wealth building!