This is the continuation of how I started investing Part 1 of my blog. If you have not read it, I recommend giving it a read prior to starting with this one.
Once I had maximized my 401K, it was time to look at other opportunities to grow my wealth even further. I had started to understand how mutual funds work, specially after the research and study I did as part of getting my 401K in a good spot. Next I was onto individual stocks and I felt I could win the world by being an excellent trader. I had already started imagining my self on Wall Street as a brilliant investor. But as all things in life, nothing is ever so simple.
I opened an app based trading account and was amazed seeing the individual stocks all online. In the past, stock trades had a price per trade and it was not as "free" in today's times. Hence I wanted to be cautious to recoup my investment and the money i spent on executing the trade. Initially, I was a little nervous hoping not to make a mistake as seeing the price changes was making me anxious if I would be able to get my investment back. The individual stocks world seemed a little different as with mutual funds I had a very long approach. But as a young person, looking at individual stock price rises and potential gains, it may make you think more short term.
The initial approach that I took on buying a stock was very flawed. I had no idea about earning reports, reading financial statements, market news and I was purely going with the instinct that I knew this company well as it was a big name and obviously it had to go up. Well, I quickly realized its not that simple and markets do not work this way. I also had no idea of market movements or buying low and understanding intrinsic value. To simplify, my approach to stock markets was pretty close to pure gambling.
In a short amount of time making some horrible stock buys, I had quickly realized this game isn't that easy. It definitely taught me a lot of things, like predicting the markets isn't that simple, instincts don't result in profits and it takes a lot of time and effort to understand the value of stock. At the same time I had started reading about Ben Graham and Warren Buffet and their approach to value investing. I took a step back to analyze my performance and I realized that I wasn't doing that well with my initial approach.
So I went back to the game I knew, playing long with mutual funds. Day trading was not fun and value investment made more sense to buy the right business and hold for the lifetime. Hence for the whole year I was actively investing in low cost mutual funds. I recommend looking at the largest brokers and closely looking at expense ratio, annual growth over 10 years and the market spread of individual stocks. Expense ratios or cost of investing in the fund is a game changer. An example, lets say you invest $10,000 each in 2 funds - Fund A with expense ratio 0.1% and Fund B with expense ratio of 2.5%. With Fund A you would spend $10 while with Fund B you would end up spending $250 as investment costs for an year.
The best part about investing in large funds is that your risk goes substantially down because rather than buying 1 stock, you are rather buying 500 stocks. The probability of your 1 stock going down is much more higher than all of 500 stocks going down. The other positive is that you may not need to do a deeper analysis of the single stock as your risk gets reduced when you invest in a larger fund.
Once I had developed a strong position in large cap mutual funds, I started exploring mid and small caps. Now rather than diversifying with just large caps, bonds and international funds, I also had mid, small caps and total market funds into the mix as well. Obviously my spread in large caps was much higher, followed by mid caps and then the least spread was small caps.
Even to date, my larger investments are in low cost mutual funds and ETFs for the long run. I do invest in individual stocks but those are again mostly value businesses that I have thoroughly studied the financial statements and year over year earnings.
(Disclosure: Please review the Disclaimer section prior to any investments.)