How to Invest in Stocks

Image shows a stack of stock documents, a bond, a few monopoly homes, a large preferred stock, ad a few jars with coins in them. Text reads:

Image by Chloe Giroux © The Balance 2019

This overview was designed to help new investors learn how to start investing in stocks. It's part of The Complete Beginner's Guide to Investing in Stock, and it provides a short checklist of topics, complete with links to much more in-depth articles, where you can study whatever it is you want to research about investing in stocks. 

The Four Major Ways to Invest Your Money in Stocks

There are typically four major ways to invest your money in stocks:

  1. Investing through a 401k plan or, if you work for a non-profit, a 403b plan
  2. Investing through a Traditional IRA, Roth IRA, Simple IRA, or SEP-IRA account
  3. Investing through a brokerage account
  4. Investing through a direct stock purchase plan or dividend reinvestment plan (DRIP)

The Five Types of Assets You Might Own When You Invest

Generally, there are five types of assets the average investor is likely to own in their lifetime, whether or not they invest in these assets directly or through a pooled structure such as a mutual fund, index fund, exchange-traded fund, or hedge fund:

  1. Common stocks: When you invest in stock, you acquire an ownership stake in an actual operating business, along with your share of the net earnings and resulting dividends produced by the firm. Although you don't have to invest in stocks to get rich, over the past couple of centuries, equities (stocks) have been the highest-returning asset class and have produced the most wealth. To learn more, read What Is Stock? which will break down the fundamentals.
  2. Preferred stocks: Preferred stock is a special type of stock that often pays higher dividends but has limited upside. 
  3. Bonds: When you lend money to a country, municipality, business, or other institution, you buy bonds such as corporate bonds, municipal bonds, savings bonds, U.S. government Treasury bonds, etc.
  4. Money markets: Money markets are highly liquid investments that are designed to protect your purchasing power. They are considered a cash equivalent. There are two varieties, money market accounts and money market funds. There are also at least five other alternatives to money markets.
  5. Real estate investment trusts (REITs): REITs are a special type of company designation that allows no taxation at the company level provided more than 90% of earnings are paid out to the shareholders as dividends. The assets are often invested in a variety of real estate projects and properties.

The Importance of Research When Investing in Stocks

When researching an investment, there are typically five documents you'll want to get your hands on so you can analyze the relative merit of a potential stock. These documents, which you should have no trouble finding, are:

  1. The Form 10-K: This is the annual filing with the Securities and Exchange Commission (SEC) and is probably the single most important research document available to investors about a company.
  2. The most recent Form 10-Q: This is the quarterly version of the Form 10-K.
  3. Proxy statement: The proxy statement includes information on the board of directors as well as management compensation and shareholder proposals.
  4. The most recent annual report: While reading the annual report, you'll want to pay special attention to the letter from the chief executive officer to see how they view the business. Not all annual reports are created equally. Generally, the best in the business is considered to be the one written by Warren Buffett at Berkshire Hathaway, which you can download for free on the holding company's corporate site.
  5. A statistical report going back five or ten years. Several firms prepare this type of information in easy-to-digest formats, mostly for a subscription fee. Some of the major research firms include Morningstar, Value Line, Standard & Poor's, and Moody’s.

The Three Financial Statements Necessary for Stock Investing

Before buying an ownership stake in a company by investing in its stock, it is vital that you examine the following three financial statements closely:

  1. The income statement
  2. The balance sheet
  3. The cash flow statement

All three financial statements work together and reinforce one another. You can not study them in isolation or you'll find yourself making decisions based on partial data, resulting in a costly mistake.