While our education system is great in teaching us arcane algebraic equations and chemical formula, it fails to give us a solid foundation on investing and managing personal finances. Here is a detailed guide to investing for beginners.
In this guide we hope to introduce you to the different avenues there are for a beginner investor to start investing. Different investment options such as Stocks, Mutual Funds, Real Estate and more are looked into in this guide.
What is an investment?
In simple terms, investment is about saving money today for use tomorrow. But when done right, well planned investments is also about putting your money to work for you to make more money. In FIRE, the goal is also to generate future revenue from all sources of investments.
On the flip side, all modes of investments includes a certain value of risk associated with it. In the case of poor investments, it may not generate any income or may actually lose value over time.
Why is Investment necessary?
Helps you generate wealth
Money may not buy you happiness. But it does get you closer to happiness than most other things.
All of us want to generate a huge amount of wealth. But we are hardly aware of how to go about creating it. Having an active source of income is crucial but a rich person does become richer when s/he increases their source of earnings and investing is one of the best options to grow money faster.
Stay ahead of inflation
There is no point in holding onto money for a long time. Thanks to inflation the value of your money erodes and is worth less and less every year.
The overall effect is that the buying power of consumers decreases because they are able to buy fewer goods with the same amount of money. When you invest, your money grows and thus it helps to stay ahead of inflation. Just make sure the investment option you are choosing has a higher rate of return.
Strengthens retirement goals
To secure your retirement, you need to invest properly. Doing so will ensure that when you retire you have enough money to enjoy the rest of your retirement without having to worry about working.
It is best to start investing at an early age. The earlier you start to save money the higher your retirement corpus will be and better the quality of your retired life. Read more about how much you will need to retire.
Saves on taxes
Planning right is key to get the dual advantage of saving taxes as well as earning tax free income.
Here is an example. Holding a position for more than a year potentially allows you to tap into the long-term capital gains tax, which is generally a lower tax rate than short-term capital gains tax.
Other financial goals
Investing is not just for the long term, in a number of cases it can help in the short term too. You can start investing to save on other financial goals, for example, your child’s college fund. when you have long-term goals it makes more sense to invest in order to grow your money faster.
Investing at an early stage
The importance of starting to invest from an early age cannot be mentioned enough.
In today’s world, almost every person in their 20’s is struggling to get a source of income. In such a scenario, building a strong future financial security investment plays a major part. Investing at an early stage gives you the liberty to utilize the advantages of a long-term investment horizon to the fullest. Even if any investment fails, you will have the time to recover and get back on track.
Here are a few advantages of starting to invest early in your life:
- You have a good amount of time than adults who are in 40s and 50s: Time plays a vital role in financial growth. It is something that young adults have in abundance. This gives you the opportunity to take risk and experiment with different forms of investment. By compounding an investor can earn compound interest which can grow huge by age 60.
- Have the flexibility to experiment and take risks: Young investors have the scope of taking risks and experimenting. They have the time to fail and re-earn (with a calculated risk) unlike investors reaching retirement age who must take low-risk investments.
- Technically sound: Young investors in their 20’s have more technical knowledge as well as the curiosity towards advancement which basically leads to a smart choice of investment. With research and experiment, they can build a strong foundation of remarkable investment strategy for them as well as for the upcoming generation.
- Creates a great learning curve: As we all know, investment does take some time to show results. During that period it becomes an amazing learning curve for any novice investors. They can learn and grow with their experience of success and failure
- Leverage compounding: Compounding power of money can work miracles on your savings. While inflation erodes cash value, compounding multiplies cash in itself. Starting early on a high yield savings plan will allow you to grow a substantial investment portfolio as you age.
What are the types of Investing?
As beginner starting to invest, there is an endless list of options for you to put your money in, but nearly all investments fall into one or the other of a handful of categories commonly referred to as “asset classes”.
It is important to know the differences of each asset class and the advantages and disadvantages for each as it will help in structuring a sturdy investment portfolio that will withstand time and market crashes.
Some of the major classifications are:
Investing in Equity and stocks
Equity or stocks is a small portion of a company that is openly traded in the stock exchange. When you wish to invest in one, you are exchanging your money for a stake in the company. As the company grows you get dividends and your stake in the company gets more valuable (with increase in the share price).
On the other hand, with market crashes or scandals, poor performance by the company you invested in, it is possible for you to lose a portion or all of your investment.
Things to keep in mind when investing in stocks:
- Maintain a diversified portfolio. Don’t invest all your money in one company
- Choose trustworthy companies that have a strong business model and have consistent performance.
- Choose a broker who is reliable and does not charge you high fees. We recommend Zerodha for beginners as they offer the cheapest fees and great trading platforms.
Fixed income investments
While stocks are on the higher side of risk, fixed investment options such as government and corporate bonds, Fixed Deposits, and money market funds etc are much less riskier. Fixed income can offer a steady stream of income with less risk than stocks. This is because these investment options are less sensitive to external events such as political issues, macroeconomic issue etc.
The disadvantage is that with the increased safety we also get lower returns. .
Fixed income investments can help you generate a steady source of income. Investors receive a fixed amount of income at regular intervals in the form of coupon payments on their bond holdings. In the case of many, municipal bonds, the income is exempt from taxes.
Things to keep in mind when investing in stocks:
- Keep a small portion of your investment in FDs or similar avenues to have a diversified portfolio.
- Choose trust worthy banks that have a strong reputation and will not go belly-up due to a scandal
- Remember that any investment in the form of cash will carry the additional risk of inflation. Which means if the inflation rate is at 5% per year, and your return from fixed deposit is 6% per year, you are only earning 1% interest on your investment.
Investing in Cash and money market funds
As someone who is just starting to invest, you may not have a sharp nose to pick out great stocks. In that case, you may be interested in placing your money in cash funds or money market funds. These are types of mutual fund investment that invests in high-quality, short-term debt instruments, cash, and cash equivalents.
This offers lesser risk than stocks, while the returns they offer are marginally better than fixed income investments such as FDs or bonds.
Things to keep in mind when investing in stocks:
- Unlike Fixed deposits, most funds allow you to withdraw your money in a couple of days with little to no exit penalty. As such this mode of investment is a great place to hold your emergency funds.
- Research on the past performance of funds and ensure you pick reputable fund management houses
- Use an app such as ET Money to track and manage your fund portfolio
Real estate or other tangible assets
Another great option for new investors who are looking for long term growth and beating inflation is buying real estate. Real estate investment is the investment made to purchase a property of any kind, it can be land, a residential apartment or even a commercial property.
Benefits of investing in Real Estate:
- Price increases with inflation
- Tax advantage for those investing in a residential property
- Strong appreciation of value of your property depending on location
- Good source of income for a long time
Commodities investing for beginners
Commodity investments are the investment that is made in raw materials, agricultural products like wheat, precious metals like gold and silver, energy resources like oil and natural gas. Of course, as a new investor just starting to save and build wealth, you will not be buying tonnes of wheat.
In order to beat inflation and enjoy a good return, you can look at investing a portion of your funds in Gold and Silver. These commodities do not fall in value with inflation, infact, they rise in value as inflation goes up.
Investing in Retirement and Pension Funds
Investing need not be only in real estate or stocks. You can place your money in a Pension Fund or government schemes that can multiply and is available at the time of your retirement. These schemes offer tax exemptions and tax free income too. National Pension scheme is another example of this kind of tax saving investment.
Atal Pension Yojana is one of the best schemes for beginners who just start investing. In this scheme you pay about Rs.1000 or more depending on your age per year and you receive anywhere between Rs.1000 to Rs.5000 per month once you turn 60.
There are multiple other categories of investment types like hedge funds, venture capital, cryptocurrency and crowdsourcing. One needs to figure out the type of investment they want to opt for in order to gain maximum financial results in the long term.
Step-by-step guide to investing for beginners
For beginners, it is crucial to calculate all the expenses before investing and spend a measurable amount of time researching as all forms of investment include some sort of risk factors.
Time needed: 4 hours.
Here are a few steps to follow when you are beginning to invest for the first time:
- Figure out your Income & Expenses
We all have a basic set of expenditure lists like house rent, food/groceries, bills, etc. Now rest of the expenses includes installments, child’s education, do vary from person to person. First step before starting to invest is to figure out your income and what your monthly expenses are. Calculate the monthly expenditure and set that aside from your monthly income.
- Decide your monthly savings
Figure out your monthly savings for future investments. Keep an amount separate from your monthly income without hampering the cost of basic expenditure. This amount will add up and build your future wealth.
- Financial Goal setting
Now decide all your long term and short term goals. Long term goals are typically in 5 years or more and include retirement, children’s education, marriage etc. Short term goals are less than 5 years and are usually about buying a vehicle, down payment for property, holiday etc
These goals are your motivating factor to keep you persistently investing your money.
- Allocating funds
You now need to sort out where you will allocate your money according to the different financial goals you need to achieve. Set aside a percentage of your savings per goal. The amount to be added to each goal will need to be decided by how important the goal is and how soon it will hit the deadline.
Don’t worry if you are not saving enough to meet the goals. As your salary and income increases, you will be saving more.
- Automate savings
It is human nature to forget or to get distracted from investing. So where ever possible automate how investments are taken from your account directly. Eg: Zerodha’s Coin has SIP features that will take money on the date you fix every month to invest in Gold fund, mutual fund etc. Similarly you can have money taken from your account every month for FD, Atal Pension Yojana etc.
- Being consistent
You need to be consistent with your budget plans. Starting early and saving consistently is the key to wealth creation. Get into a habit of saving. Saving is a long-term process and one must be patient in order to achieve financial success.
Gamify it to make it more interesting. If you are fine, talk about your goals to others and let people know where you are. Here is Abhi’s investment portfolio that is updated monthly.
- Invest more with the increase in salary
As salary keeps on increasing every year, you must increase the amount you are investing. This helps you reach your FIRE goals or investment goals sooner.
- Keep track
Finally, always keep track of the investment made and monitor the changes. This is crucial so that the asset value keeps on increasing and profit is made. You will also be aware of market movements and can quickly rebalance if required.
You can start investing with little money by saving or by robo-advisor which will guide you to determine your goals and risk capacity.
This will lead to a highly diversified low-cost portfolio of stocks and bonds.
Some of the best stocks to invest for beginners are Hindustan Unilever LTD., Tata Consultancy Services, Crisil, Infosys and ITC.
Some of the very basic investments that are well-suited for beginners are Employer Retirement Plan, mutual funds, Index funds, Exchange-traded funds (ETFs), and gold.