You have a bit of idle money lying around that you wish to invest. Maybe you are saving a little bit of money but don’t know where & how to invest.

In this article, I will particularly talk about everything about investing in stock. After you finish reading the article, you will have a comprehensive idea about stock market.

We’ve all heard of stocks, how it can bring you a lot of gains. But you’re hesitant of stepping in uncharted waters, right?

A passive income is a security we all wish to have; the wealthiest people out there have streams of passive income coming their way.

You can look at Bill Gates, approximately 60% of his fortune is invested in stocks now, and Mr. Gates is worth $120 billion at present.

As a newbie, you have a lot of questions about stock investments. Let’s address all of them to teach you the ropes of stock market in simplest of terms.

What is Stock?

Before you start putting your money in it, it is important to understand what stocks represent.

I will give you my investing experience. Few years back, one of my friends started a start up. He invested $10,000 in the business. Later when he needed money, he asked me to invest. I did invest $5,000 and became a 33% shareholder owner of his company.

Because it was more of a private arrangement between him and me. The everyday people don’t have any chance to become a stockholder of his company.

The good news is that you can become a proud owner of big corporations like Apple, Facebook after buying their shares through stock market.

That is exactly the concept of stock is, except you’re investing in companies that are registered to the Securities Exchange Commission.

Stocks are the smallest portion of a company’s ownership. The more you have of it, the more you own of it.

If a Coca-Cola Stock costs $500 and you buy 10 of them, you now own $5000 of the massive company that Coca-Cola is.

You should keep in mind that there are actually different types of stocks. But broadly, they can be classified as “Common Stocks” and “Preferred Stocks”.

All the chit-chat you hear among people is about common stocks, and that is the main focus of this guide as well.

What is Stock Market?

Remember the friend who asked you to invest in his startup? Imagine he didn’t ask you personally, but rather announced he would like people to invest in his business.

The ones willing to pay will then invest in that business and become a part of its ownership. They can also sell their ownership by finding other people who now want a part of it.

A stock market works just like that. It is a place where people buy and sell their ownerships or stocks in a company.

In this modern day and age, you don’t necessarily need to get in the building of a stock exchange. You can invest in stocks through banks, brokers, or even from your phone sitting at home.

How Does the Stock Market Work?

After understanding what a stock market is, it is only normal to want to understand how it functions. There are two major ways to make purchases in a stock market.

The first one is called an Initial Public Offering (IPO). Just like your friend, companies announce that they now want the public to invest in their business in exchange for portions of its ownership.

In an IPO, a company goes public for the very first time by releasing a “Prospectus” that holds information regarding the company’s financial situation, its purpose, its directors, and a lot more.

The IPO has a fixed price that you can pay to buy stocks in that company.

You may remember Chinese tech giant Alibaba Group bagging nearly $22 billion in 2014 from its IPO. Each stock cost only $68 to become an owner of the massive corporation.

But, the other more interesting and biggest form of stock market activity is trading. Trading is done by the public owners of the company, not the company itself.

You may have bought some stocks in a company, but you don’t need to be a part of it forever. You can use the stock market to sell parts or the entirety of your ownership of a company to people who are interested in becoming an owner there.

Similarly, you don’t lose out the opportunity to become an owner of a company if you miss the IPO. You can buy other people’s stock in that company when they are willing to sell it.

Trading is how majority of the transactions take place in a stock market as people buy and sell thousands of stocks every day. A company can also do a secondary offering where they issue new shares to the public even after their IPO, but it is not as popular as trading or IPO.

How Does Investing in Stock Make Money?

The reason you want to invest in stocks is to make money. But how does a stock give you gains? There are two ways a stock can generate you some sweet passive income to count on.

Dividend

When you decided to invest in your friend’s business, he used it, generated profit, and gave you a portion of it. Similarly, when you buy stocks of a company, they use the money you paid in exchange for the ownership, invest it in the company’s business and provide you with a portion of the profits. This form of return from a stock is known as “Dividend”.

A company does not provide you all the profit it makes. Although it is the profits that allow a company to provide its stockholders with dividends, the correlation of profits earned in a year and the dividends paid in that year is not that strong.

If a company invests $10 billion and earns $12 billion from it, that’s a 20% profit. But the company may choose to give its stockholders a 10% dividend.

So, if you are holding 10 stocks worth $100 each, your total ownership is $1000 and 10% dividend on that will get you $100 as return.

The company may choose to reinvest the remaining 10% back in the business, which is actually in the best interest of the investors for future gains.

You also can reinvest your $100 in stocks, which will provide you with more return in future.

This is an amazing feature of investments, and it is called “Compounding”. Your initial investment might be $1,000 and you might be making 10% gains every year on average, but when you reinvest your returns, you are getting your next return on your initial investment plus your reinvested amount.

So when you reinvest your $100 profit, you will gain 10% of $1,100 ($1,000 initial investment + $100) in the next term equaling to $110. This makes your initial investment of $1,000 turn into $1000 + $100 + 110 = $1210 in just two terms.

Capital Gain

There is another way of making money from stocks, it occurs when you sell currently owned stocks at a higher price than you bought it with.

Stock prices don’t remain the same; in fact, they are constantly changing. So, the stock you bought at one price is worth something different by now.

When the stock you bought at one price is worth more at the market while you still own it, you can choose to sell it and make a profit from it. This is called a “Capital Gain”.

So, if you buy 10 stocks worth $100 each, you own $1,000 of the company. If the stock price changes and becomes $120, you will automatically own $1,200 of the company.

At this moment, if you choose to sell all 10 of your stocks, you will be making a $200 profit. But should sell your stocks and if yes then how many is a different game.

Why Does Stock Price Fluctuate?

When too many people want something, due to surge of demand, it automatically costs more. On the other hand, something not a lot of people want can be bought at a low price. The stock market works the same way when trading.

To put it simply, supply and demand are at work when it comes to setting the price of a stock. But of course, that does not explain the entire picture. There are factors at play that influence this supply and demand.

One of the main reasons how well the company is doing business. The future of the industry that company is in.

Also sector specific news, negative comments by the top executives affect the share market price.

For example, the share price of Pfizer (a Pharmaceutical company) surged when they declared the found the Coronavirus Vaccine.

But in the end, all of it comes down to one thing. It is how the buyers and sellers of the stock market are reacting to the market information.

Even if a company is not doing well, the buyers may believe it will be profitable to invest there and essentially drive up the price. The vice-versa can also take place.

What is Stock Market Capitalization?

Market Cap is a term you may have heard a lot, but it is possible that you don’t know what it means. This term is the shorter form of “Market Capitalization”.

To put it simply, it is the entire value of the number of stocks issued by a company. This is important because not knowing what market cap may is lead to a wrong understanding of how big a company is.

Consider a company that has a total of 100 stocks each worth 50$. The market cap of that company will be $5,000. Now, consider another company which has 1,000 stocks each worth $10. Market cap of the latter company will be $10,000.

So, you might think the former company which has a stock worth $50 is bigger than a company with stocks worth $10 each, but the truth is the latter company is twice as big as the former one as the market cap showed us. That is why it is significant to take market cap into account when making decisions.

Stock split is another common occurrence in the stock market. It affects the number of stocks a company has, but the market cap remains the same.

Consider a very common 2:1 stock split. That means if you owned 1,000 shares of a stock worth $10, it would then become 2,000 stocks each worth $5. As you can see the stock price has gone down by half and the number of stocks you own has doubled, the market cap remains as $10,000.

Stock split is a very common reason for a stock price to drop; it does not indicate that the company is now less valuable. It exists to help smaller investors who cannot afford costly stocks of a big company.

Once the price goes down due to stock split, the company is still worth just as much. But now more people can afford to become an owner of it.

What is Stock Value?

Stock price and stock value are, indeed, NOT the same thing. The price of a stock is presented in the market every day, the value is not. In fact, the price of a stock can be a very misleading factor for the newbie investors.

As we have already discussed, the price of a stock is dependent on how the buyers and sellers of the market perceive and act on different available information. It does not reflect the state of a company or the value of a stock.

We have also seen how market cap and stock split play in here. High stock price may exist for a small company but a company with lower stock price, but higher market cap is undoubtedly the bigger company.

There might also be rumors or misleading advice that may cause people to believe a certain stock is valuable, which will lead to a price increase. This situation may lead to massive losses.

The dividend a company pays indicates a good sign. But high dividend does not mean high value. You need to think why your company is giving away so much dividend instead of putting the money in business. They might also be paying you from their reserve funds while making no profit.

To understand the value of a share, one must follow the trends and the news. Anything people are getting more interested in will likely be of more value.

You can go to your grocery store and see a new detergent doing well, investing in that detergent company is likely to bring you gains. You may see the news of the next iPhone dropping and buy shares in Apple, this will also provide you with future gains. Getting advice from expert analysts can be beneficial, but they must be trustworthy.

The internal state of a company plays a big part in determining share value. You can look at the company’s management and past records.

If they have reliable people doing great business for years, the stock is likely to be valuable. You should also investigate solid data like the P/E Ratio which you can find on various P/E calculator sites.

P/E refers to how much you need to invest to earn $1 from that company.

Suppose a company has 100 stocks worth $10, putting the market cap at $1,000. If the company pays $100 in dividend, then earning per share is $100 / 100 = $1.

If the current market price of its stock is $10 then your P/E is 10 / 1 = 10x. This means you have to invest $10 to earn $1 from this company. This ratio should be compared with other firms to determine if it’s a good or bad ratio.

What is a Blue Chip Stock?

Have you ever played poker? Whether you have or not, one chip in the game is more valuable than the others. You guessed it, it’s the blue chip.

Similarly, the companies with the same label are considered some of the top companies who pay high dividends with a steady increase every year. They are the benchmarks of reliability as they continue fulfill their promise whether the economy is going through a boom or drought.

Operating for over a century while matching its commitments and providing the stockholders with steady earnings without the need for much trading, Coca-Cola is a prime example of this category.

It isn’t necessarily only the biggest companies that fall under this category. You should look at a company’s management and financial records and determine if it is valuable enough to be labeled as a blue-chip stock.

What is a Penny Stock?

Although not polar, penny stocks are somewhat opposite of blue-chip stocks. These stocks are from small companies with a small price per stock. In the USA, stocks lower than $5 are considered as penny stocks.

These are mainly small startups trying to publicly fund their venture. Although bought for a low price per stock, they pose high risk which may lead to a massive loss or high returns.

The transaction of these types of stocks take place in the Over the Counter or in short, OTC markets. These are markets where companies that are not among the listed ones by the stock exchanges trade stocks.

There are some penny stocks in the regular exchanges if they are large enough companies, but that is an exception rather than the norm.

These stocks pose high potential but also high risk to the investors. Keep your eye on new startups and the OTC market if you want to catch one of these.

What is a Value Stock?

Endorsed by Warren Buffett and initiated by the father of value investing, Ben Graham, value stocks are stocks that are being sold at a price which is lower than their true value.

Calling it intrinsic value, it is the value investors are failing to see in a company’s stocks, therefore undervaluing it. These stocks will soon rise to their true potential and create huge gains for the company and its investors.

These features allow investors to make high returns from a relatively small investment. Looking out for topics answered in “What is Stock Value” will definitely help out here. Citigroup of USA is a great example of this as although they are relatively low-priced, they have a great P/E ratio.

What are Preferred Stocks and Preferred Dividends?

Preferred stocks do indicate ownership of a company, but they don’t go through all the volatility the company as well as the common stockholders do.

People holding these stocks do not hold voting rights; significantly reducing their control over the company. But they are paid a fixed rate of dividend every term and will always be paid before common stockholders.

This comes with some bond-like benefits, but the holders will definitely miss out on any growth the company has. That is how the preferred dividend works.

So, a common stockholder might get a 10% dividend, but a preferred holder will keep getting 8% if that’s what they were promised. But this also means when the common stockholder gets a 5% dividend, the preferred holder still scored an 8%.

What are Mutual Funds and ETFs?

One person cannot buy all the stocks, or can they? It is widely accepted that creating a portfolio where the stocks are well-diversified will mitigate risk and provide better results. But making purchases from a variety of good companies might not be everyone’s cup of tea due to reasons that can be financial, time, and effort related.

Mutual funds are funds collected in a pool and then invested in a lot of stocks that might beat the market when actively managed. A passively managed fund works like index funding. It matches the indexed companies’ trends, giving investors steady growth.

ETF or Exchange Traded Funds are similar but are almost never actively managed. They are similar low risk options with even lower costs and they are bought and sold all day every day like stocks.

Mutual funds that are actively managed will require more minimum funds and try to earn more than the rest with expert decisions, but ETFs and Index Funds are pretty much passively managed with low risk and low cost, giving you gains without consuming your time.

How to Buy and Sell Stocks?

Of course, after knowing the nitty gritty of stock market, it is time to invest! There are a few ways to do that.

It depends on your investment budget as well as how much time and money you are willing to put in.

First, you need a brokerage account from any registered brokerage house to get started.

We do not recommend beginners to start buying and selling stocks completely on their own, but there are a few ways to do that.

Keeping an eye on the prospectus and applying to buy the IPO when you like it is one way to go.

If your employer or colleagues provide you an opportunity to be the part of an employee share scheme where you will find options to buy and sell certain shares yourself with low fees and commissions, that can be a good option as well.

You can also look out for good mutual funds and ETFs in the market as an indirect investment. These options will save you the administrative troubles while earning good returns.

ETFs are highly recommended for newbies as they cost low and don’t require much time and attention.

The most common and preferred way for beginners is to use a broker. There are many online broker services now that cost very little and can get you started almost immediately.

A lot of these are robo-advisers. These apps observe and analyze the market and provide you suggestions based on their technology according to your needs. These are very easy to use and consume very little time and charges.

Whether online or offline, for a broker that is not a robot, you can go for full-service brokers who charge you higher but also provide you expert advice and take care of your investments. A lot of these brokers require high amount of minimum investments as well. Although expensive, expert advice can come in handy for beginners.

But you can also go for discount brokers who give you all the means to invest but you must do the investing part by yourself. With online services getting more popular, these types of brokers have grown exponentially. You can also use your retirement account or setup one yourself to use it as an account for stock investments.

What are Buying and Selling Orders?

You can place many types of custom orders, both online and offline. But there are only a few options you need to get familiar with.

A market order is an order type where you tell your broker to get you the stock no matter what it costs. Suppose a stock price is changing rapidly from $100 to $90 to $110. It doesn’t matter what the price is, your broker will get you that stock the moment it is available to you.

A limit order allows you to put a limit on that same order. So now, you will not be buying no matter what the price is, you will rather buy the stock when it is your specific set price or your set maximum price.

So, you can set a limit or an upper limit of $90 for that same stock and you will only buy it when the market price drops to $90 or lower.

In this case, administrative as well as computer work might take some time; so, the price may end up being a little different from your ordered limit by the time your purchase is complete.

Similarly, when you want to sell, you can use a stop loss order. You have a market order here as well that sells your stock no matter what the price is. Or, you can use a limit order where it will only sell when the price comes to your set amount accounting for the time it takes to complete the purchase.

A couple more types that can help you are GTC and GTE. GTC keeps your order open until manually canceled while GTE cancels your order according to your set time.

So, in GTE, it won’t wait forever for your stock to reach $90 to make the transaction, it will stop pursuing that transaction after expiry date. But in GTC, it will carry on until the transaction is canceled or completed.

What are the Best Stocks for Beginners?

This is the moment of truth; all the knowledge you have accumulated so far comes down to making the best out of your investments.

The first advice is very simple, buy safe stocks. Use the methods you have learned on determining the value of a stock and choose the ones that don’t fluctuate as much.

Blue Chip companies and ETFs are excellent choices for beginners. They provide you steady income matching or even beating the market. Buy that Coca-Cola stock, get yourself a low risk index fund!

You should also buy a good amount of share at once since fees and commissions are a thing. If you pay $10 for a transaction of $100 and the return is less than 10%, that’s a loss for you. Investing at least $500 at once is recommended in similar markets.

And as already mentioned, pay attention to news and trends. Buy stocks of products people are buying in stores.

One thing that is very important is holding onto your investments, don’t keep trying to buy and sell in hopes of quick gains. Hold onto a stock for at least 5 years and it is bound to grow. If you keep trying to beat the market, the market may end up beating you. However, if you’re certain you will make a huge loss soon, sell the stock ASAP.

Although we don’t recommend trading for beginners much, but if you are determined, buy when everyone sells and sell when everyone buys.

People buy and sell based on present, but businesses go through booms and droughts. If you buy when people are selling you buy at low and the price eventually goes up, the vice versa applies as well.

When everyone decides to sell the Apple share because the new iPhone flopped, that’s when you buy it and sell it when the prices are up. Also make sure to reinvest your dividends to earn compound returns as mentioned before.

The portfolio depends on a person’s ability to provide time and money to the investment as well the risk they can take. But in general, we suggest 80% of the investments in safe stocks for beginners. Also, staying away from risky sectors such as the tech sector is appropriate for newbies.

Is Stock Investing a Good Idea in 2021?

The pandemic has caused a global recession. It is making people sell their stocks like crazy. 2021 is upon us and yes, it is a good idea to get in the stock market in this year.

The stock market is ever-present; you will buy stocks at low which will eventually go up once the economy recovers. Holding onto your investment for long enough will get you great returns.

Warren Buffett’s Advice for Beginners

So far you have a solid idea of stock market investment. To help you more, I thought to include some stock genius’s advice for you. Who other than Mr Buffet can advise you better.

Mr. Buffett bought his first stocks at the age of 11; today his net worth is $80.5 billion. The greatest of all time has a few advices for beginners.

• Your stock managers must have talent but also integrity. A smart guy without integrity will just rip you off.
• You must invest after proper understanding and not just be influenced by what people are saying. Speculation leads to immense losses.
• Invest in Businesses that truly have the potential to grow, don’t try to make cheap profits from bad businesses.
• Invest in a stock you have a good understanding of. You don’t need to understand every financial aspect, but don’t go into an industry you have no idea about.
• Seize the good opportunities; people let go great things by speculating too much. If you know it’s great, go for it.
• Hold onto what you invest. Don’t try to sell to make quick profits. Unless the business or the industry fundamentally transforms into something you didn’t sign up for or don’t understand. Keep it and let it grow.
• Find stocks that are undervalued, they will bring you high gains with low investments. Value investing can do wonders.

Conclusion:

Investing in stock market is a great way to earn your financial freedom. If you invest without investing in the stock market, you will surely lose your money soon.

At least, you will have hard time to gain on your investment.

Whether you have little money or a lot, whether you want to be active or passive, whether you can afford to take risks or not, the stock market has a place for you.

Implement the information of this guide in real life. Keep coming back to it and understand the topics better every time you need to.

Everyone begins somewhere; stock market is the perfect vehicle to earn your passive income.