How do you know when you are ready to invest in stocks?
For too many investors, they choose to jump into the stock market when there is a "hot" stock in the news and the buzz is too much to resist.
This approach has more than a few problems, any one of which will sink the investor's dreams of a huge payoff.
Here are some of the problems:
1. Choosing to invest in stocks, bonds, mutual funds or just about anything is a process, not a single event.
The process should begin with a thorough review of the investor's personal finances:
- Have you adequately funded a retirement plan? The tax-deferred benefits of a qualified retirement plan are difficult to match. Earnings grow tax-free until withdrawn - not something a regular investment account can match.
- Do you have six months of cash in reserve in case a wage-earner loses their job? Given that jobs are often hard to replace, six month may not be enough.
- Have you reduced or eliminated short-term, high-interest debt (i.e. credit cards)?
- Do you have a plan for funding higher education for your children?
- Do you have adequate insurance and a will?
There may be more that apply to your personal financial situation, so an honest appraisal of your potential vulnerabilities is important.
2. Assuming you have satisfied all the problems above, buying into a media-hyped situation almost guarantees you will buy a stock at or near its peak.
The only way it can go from there is down. Sure, you may miss some potential profits, however buying into a hot market is asking for a loss and the market will deliver most of the time.
3. Buying into a frenzy almost guarantees when the stock drops like a rock (the usual next step after a meteoric rise), you will sell at or near the bottom.
After all, the crowd enticed you to buy and when they dump the stock, you will also, but not before it has fallen low enough to assure a loss.
You will know you are ready to invest in stocks when you have taken all the necessary steps to protect your financial future and have studied several potential stocks before settling on one that represents a business you understand and appears poised for growth.
