Beginner's Investing Guide to Make Your Money Work for You

Learning How to Invest Can Give You a Better, More Enjoyable Life

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Whether you're just starting out on your own, in the middle of your career, approaching retirement age, or in the midst of your golden years, you've begun to think about your financial future; how you might prudently manage your capital so that it can work for you, allowing you to enjoy your life without stress or worry. Congratulations! As with all positive change, the journey begins with curiosity.

The fact you are here, now, reading this demonstrates you are ready to take action. Nobody starts out an expert. Even the best investors in the world were once sitting where you are. While the wisest path to take depends upon your unique needs, preferences, values, and circumstances, the questions remain: 1. Where should you begin and 2. How do you begin?

Those two inquiries might seem daunting — you may very well have already encountered terms like price to earnings ratio (p/e ratio), market capitalization, and return on equity — but, in reality, they are not nearly as scary as they seem. As you begin your investing education, my hope is that I can be there for you to hold your hand; to explain, in a broad and general sense, what I think is important and why I believe you should care about it just as I have for millions of readers over the nearly two decades I've had the pleasure of serving as the Investing for Beginners Expert both here at The Balance and its predecessor, Investing for Beginners at, as well as through my other writings both in print and online.

The First Investing Step Is Figuring Out Which Types of Assets You Want to Own

For a moment, I want you to forget everything you think you know about investing. Instead, I want you to reflect on this basic truth: at its core, investing is about laying out money today with the expectation of getting more money back in the future, which, accounting for timeadjusting for risk, and factoring in inflation, results in a satisfactory compound annual growth rate, particularly as compared to standards considered a "good" investment.

That's really it; the heart of the matter. You lay out cash or assets now in the hope of more cash or assets returning to tomorrow, next year, or next decade.

Most of the time, this is best achieved through the acquisition of productive assets. Productive assets are investments that internally throw off surplus money from some sort of activity. For example, if you buy a painting, it isn't a productive asset. One hundred years from now, you'll still only own the painting, which may or may not be worth more or less money. (You might, however, be able to convert it into a quasi-productive asset by opening a museum and charging admission to see it.) On the other hand, if you buy an apartment building, you'll not only have the building, but all of the cash it produced from rent and service income over that century. Even if the building were destroyed, you still have the cash flow, which you could have used to support your lifestyle, given to charity, or reinvested into other opportunities.

Each type of productive asset has its own pros and cons, unique quirks, legal traditions, tax rules, and other relevant details. You might find yourself drawn to one, the other, or some combination of investments based on your existing resources, knowledge, temperament, and even the opportunities available in one asset class at any given time compared to another.

Broadly speaking, investments in product assets can be divided into a handful of major categories. Let's walk through them together.

Investing in Stocks

When people talk about investing in stocks, they usually mean investing in common stock, which is another way to describe business ownership, or business equity. When you own equity in a business, you are entitled to a share of the profit or losses generated by that company's operating activity. A massive portion of the work I've written on investing for beginners has focused on this category for two reasons. First, on an aggregate basis, it has historically been the most rewarding asset class for investors seeking to build wealth over time. Second, I find it the most intellectually and emotionally satisfying.

At the risk of oversimplifying, I like to think of business equity investments as coming in one of two flavors — privately held and publicly traded.

Investing in Privately Held Businesses: These are businesses that have no public market for their shares. Privately held businesses can be structured in multiple ways depending upon the legal rules of the country in which they are formed; e.g., in the United States, this might include a limited liability company, a general partnership, a limited partnership, a corporation, or even a sole proprietorship. When started from scratch, they can be high-risk high-reward for the entrepreneur. Personally, many of you know that I am a big fan of privately held business equity as an investment. Back in our college days, my husband and I founded an American-based letterman jacket awards company called Mount Olympus Awards, which provided a lot of our free cash flow in the early years when we were just getting started. In recent years, we founded Kennon-Green & Co., a global asset management firm that designs, constructs, monitors, and maintains bespoke portfolios for affluent and high net worth individuals, institutions, and families. Going back through my family tree, members of the Kennon family have started, owned, and operated more enterprises than you can imagine; banks, sporting goods retailers, restaurants, jewelry stores, general contractors, demolition companies, embroidery shops, cement companies. The list is expansive. It was, and is, part of our cultural DNA. You come up with an idea, you establish a business, you run that business so your expenses are less than your revenues, and you grow it over time making sure you are not only being well-compensated for your time but that you capital, too, is being fairly treated by enjoying a good return in excess of what you could earn from a passive investment. Though entrepreneurship is not easy, owning a good business can put food on your table, send your children to college, pay for your medical expenses, and allow you to retire in comfort.

Investing in Publicly Traded Businesses: Private businesses sometimes sell part of themselves to outside investors in a process known as an Initial Public Offering, or IPO. When this happens, you can buy shares and become an owner, either by purchasing the stock through an account at your broker, such as a taxable brokerage account, or through something like a direct stock purchase plan or dividend reinvestment plan, also known as a DRIP. From the time I bought my first common stock as a teenager roughly a quarter-century ago, I've been collecting business ownership this way; an augment to, and expansion upon, my privately held businesses. My personal portfolio is stuffed with everything from alcohol distillers such as Diageo in the United Kingdom to soap manufacturer Colgate-Palmolive here in the United States to packaged food and beverage giant Nestlé in Switzerland. Over the years, my husband and I have had the philosophy of spending significantly less than we earn and using that surplus to invest in common stocks whenever we liked the terms and pricing available to us. It gives us great joy to not only know that it is almost an impossibility for anyone in the developed world to go for an extended period of time without putting cash in our pocket indirectly — whether you realize it or not, you're sending us money when you swipe your credit or debit card, take a sip of cola, eat a chocolate bar, order a coffee, spice your food, order replacement parts for your automobile, buy lumber, pick up a cheeseburger for lunch, ship a package, take out a student loan, brush your teeth, wash your face, do your laundry, or fill a prescription — but to see that cash get deposited in the various accounts that make up that overall portfolio; money flooding in from around the world whether we are eating or sleeping, watching a movie or vacationing. It suits who we are and how we like living our lives. We enjoy spending our time reading annual reports and 10-K filings. In fact, as I write this to you, I'm sitting near a stack of roughly half-a-dozen documents, measuring what looks to be three inches high, that I can't wait to get through. It's exciting to us to wake up each morning and search for more companies we want to own; more cash generating assets we can add to our stable so we profit from providing our fellow citizens products and services that make their lives better or more enjoyable. (If this is something that interests you, you can learn more about investing in stocks by reading How to Invest in Stocks and How to Buy Stock for Your Investment Portfolio.)

There is practically no limit to the time I can spend discussing this part of the investing universe. In fact, it might take months of reading for you to make your way through my body of work if you were so inclined; hundreds upon hundreds of thousands, or even millions, of words. Take the second category, investing in publicly traded businesses. I've talked to you about the benefits of owning blue-chip stocks and how you might become a better investor by thinking of your stocks like you do your private businesses. I've explained to you the three ways you can make money investing in a stock. I've taught you about various approaches to business equity investing, such as dividend investingdividend growth investing, and value investing. I've explained the reasons some investors are drawn to investing in the stock of bad companies. I've taught you how to calculate enterprise value. I've helped you understand the difference between common stock and preferred stock; even talked about convertible preferred stock. I've taught you how to read an income statement — what things like gross profit margin and operating profit margin are — as well as how to analyze a balance sheet. We've delved into some pretty advanced topics on my personal blog. These days, I spend most of my writing time on releasing letters to the private clients of our asset management company for whom we serve as fiduciaries. I love watching readers grow and learn; to go from beginners who know little to nothing about investing to experienced investors comfortable discussing returns on capital or accounting rules.

Investing in Fixed-Income Securities

When you buy a fixed income security, you are really lending money to the bond issuer in exchange for interest income. There are a myriad of ways you can do it, from buying certificates of deposit and money markets to corporate bondstax-free municipal bonds to U.S. savings bonds such as the Series EE savings bonds or Series I savings bonds, sovereign bonds such as U.S. Treasury bills, bonds, and notes to agency bonds, and commercial paper to auction rate securities.

As with stocks, many fixed-income securities are purchased through a brokerage account. Selecting your broker will require you to choose between either a discount or full-service model. Briefly covering both, full-service brokerages provide a wider range of services and have the price tag to match. They serve along the lines of professional money managers and can offer advice as to what investments might be right for you. Discount brokers are companies that tailor to the more self-directed investor. They don't offer advice as to where you should invest your money, leaving you to make your own financial decisions and charging you much less than their high-touch counterparts. Some firms, such as Merrill Lynch, offer both services to their clients or customers, allowing them to choose between the full-service and discount platforms. When opening a new brokerage account, the minimum investment can vary, usually ranging from $500 to $1,000; often even lower for IRAs, or education accounts. Most offer the option of either having an application form sent to you, allow you to fill them out online, print them, and mail them in with a check, or can be completed digitally with an electronic signature. The process is easy and can be finished fairly quickly at almost all financial institutions.

Investing in Real Estate

Perhaps the oldest and most easily understood (though far from simple) asset class investors may consider is real estate. There are several ways to make money investing in real estate, but it typically comes down to either developing something and selling it for a profit or owning something and letting others use it in exchange for rent or lease payments. For a lot of investors, real estate has been a path to wealth because it more easily lends itself, if you'll pardon the pun, to using leverage. This can be bad if the investment turns out to be a poor one, but, applied to the right investment, at the right price, and on the right terms, it can allow someone without a lot of net worth to rapidly accumulate resources, controlling a far larger asset base than he or she could otherwise afford.

Something that might be confusing for new investors is that real estate can also be traded like a stock. Usually, this happens through a corporation that qualifies as a real estate investment trust, or REIT. For example, you can invest in hotel REITs and collect your share of the revenue from guests checking into the hotels and resorts that make up the company's portfolio. There are many different kinds of REITs; apartment complex REITs, office building REITs, storage unit REITs, parking garage REITs, REITs that specialize in senior housing.

Investing in Intangible Property and Rights

Personally, I adore this asset class when it is done right because you can create things out of thin air that goes on to print money for you. Intangible property includes everything from trademarks and patents to music royalties and copyrights. I'm particularly fond of the latter. Over my lifetime, my copyrights alone have generated a lot of money that I was able to use for other purposes, including redeploying the cash to buy stocks, taking vacations, or donating to my family's charitable foundation.

Investing in Farmland or Commodity-Producing Goods

Although it often involves real estate, investments in commodity-producing activities are fundamentally different in that you are either producing or extracting something from the ground or nature, often improving it, and selling it for what you hope is a profit. If oil is discovered on your land, you can extract it and take cash from the sales. If you grow corn, you can sell it, increasing your cash with every successful season. The dangers are significant — bad weather, disasters, and other challenges can and have caused folks to go bankrupt by investing in this asset class — but so, too, can be the rewards.

The Next Investing Step Is to Decide How You Want to Own Those Assets

Once you've settled on the asset class you want to own, you next to decide how you are going to own it. To better understand this point, let's look at business equity. If you decide you want a stake in a publicly traded business, do you want to own the shares outright or through a pooled structure?

Outright Ownership: If you opt for outright ownership, you are going to be buying shares of individual companies directly so that you see them somewhere on your balance sheet or the balance sheet of an entity you control. There are all sorts of tax and planning strategies you can take advantage of by doing it this way, including the much-loved stepped-up basis loophole and tax-loss harvesting of specific lots to minimize the bite taken by the Federal, state, and local governments when you need to raise cash. The downside is they are generally more expensive and only make sense once you get up into the six-figures, typically $250,000, $500,000 or more. This isn't feasible for a lot of investors just starting out unless they've experienced a major windfall somehow.

Pooled Ownership: An enormous percentage of ordinary investors do not invest in stocks directly but, instead, do it through a pooled mechanism such as a mutual fund; e.g., a traditional open-ended mutual fund or an exchange-traded fund (ETF). You mix your money with other people and buy ownership through a shared structure or entity. For example, in an article called How a Mutual Fund Is Structured, I walked you through the framework of an ordinary open-ended mutual fund. Some wealthy investors invest in hedge funds. For smaller, poorer investors, things like exchange-traded funds and index funds make it possible to buy diversified portfolios at much cheaper rates than they could have afforded on their own. The downside is a near total loss of control. If you invest in something like an S&P 500 index fund, which isn't nearly as passive as some investors have come to believe but is, instead, actively managed by a committee that makes methodology changes from time to time, you are sort of along for the ride, outsourcing your decisions to a small group of people with the power to change your allocation. You also have the risk of embedded capital gains which haven't been a problem to date but, should the major index companies ever experience a reversal of cash flows, like most investing strategies ultimately have at one time or another in the past, could mean getting stuck with someone else's tax bill. (In recent years it has become important to point out that an index fund is a type of mutual fund, not a type of investment. The use of the word "index" simply means that the assets of the mutual fund are managed in a way that seeks to mimic the performance of some specific index — which is really just a set of rules for deciding which assets to buy or sell. The most common type of index fund you will hear people talk about is an equity index fund, usually, one that seeks to mimic something like the S&P 500.)

The Third Investing Step Is Deciding Where You Want to Hold Those Assets

After you've decided the way you want to acquire your investment assets, next, you have to decide how you want to hold those assets. This can have major, sometimes life-changing consequences for your family, including your children, grandchildren, and other heirs. A small amount of planning in the beginning can mean enormously beneficial outcomes later. A brilliant illustration is Walton Enterprises, LLC, which is the private family holding company of the late Sam Walton. By having his family members invest together through a consolidated entity, he effectively gifted 80 percent of his wealth to his children without having to deal with estate taxes. Namely, he split up the ownership of what became Wal-Mart Stores, Inc. to the kids, holding it through the entity he controlled, back when the company had little to no value compared to what it ultimately became. He was able to separate control from economic interest, resulting in the Walton family becoming far, far richer than it otherwise would have.

The decisions you make could someday be just as important. When you make an investment, how will you hold it? We've already talked a bit about taxable brokerage accounts but there are other choices, too; things such as a Traditional IRARoth IRASimple IRA or SEP-IRA; maybe even a family limited partnership, which can have some estate tax and gift tax planning benefits if implemented correctly. Let's briefly look at some of the broad categories.

Taxable Accounts: If you opt for taxable accounts, such as a brokerage account, you will pay taxes along the way but your money is not restricted. You can spend it on whatever you want, however, you want.  You can cash it all in and buy a beach house. You can add as much as you want to it each year, without limit. It is the ultimate in flexibility but you have to give Uncle Sam his cut.

Tax Shelters: If you invest in things like a 401(k) plan at work and/or a Roth IRA personally, there are numerous asset protection and tax benefits. Some retirement plans and accounts have unlimited bankruptcy protection, meaning if you suffer a medical disaster or some other event that wipes out your personal balance sheet, you can walk away with your investment capital still compounding for you beyond the reach of creditors. Others have limitations on the asset protection afforded to them but still reach into the seven-figures. Some are tax-deferred, often meaning you get a tax deduction at the time you deposit the capital into the account to select investments and then pay taxes in the future, often decades later, allowing you year after year of tax-deferred growth. Others are tax-free, meaning you fund them with after-tax dollars but you'll never pay taxes on either the investment profits generated within the account nor on the funds once you withdraw the money later in life, provided you meet eligibility requirements and Congress doesn't change the rules. Good tax planning, especially early in your career, can mean a lot of extra wealth down the road as the benefits compound upon themselves.

Trusts or Other Asset Protection Mechanisms: Another way to hold your investments is through entities or structures such as trust funds. There are some major planning and asset protection benefits of using these special ownership methods, especially if you want to restrict how your capital is used in some way. For example, if you acquire a life insurance policy, you may want to name a trust fund as the beneficiary of the policy. This will result in the insurance payout going to the trust. I'd go so far as to do something like opting for a bank trust department as the official trustee instead of the guardian of your now-orphaned children. This should make it much more difficult, if not impossible, for the guardian to squander the wealth intended for your child; a story you hear far too often in financial planning circles. Yes, the investment fees will be considerably higher but falling behind the market is not your primary concern. In fact, it's a distraction. If you have a fairly simple trust with $500,000 or so in it, no complex needs, and you expect it will be disbursed within roughly a decade after your death, I'd, personally, consider looking into Vanguard's trust department. The effective fees are roughly 1.57 percent per annum by my estimates. For what you are getting, that's a great bargain. I don't think it's ideal for wealthier investors or investors with specific mandates but otherwise, it gets the job done.

If you have a lot of operating assets or real estate investments, you may want to speak to your attorney about setting up a holding company.

An Example of How a New Investor Might Start Investing

With the framework out of the way, let's look at how a new investor might actually start investing.

First, assuming he or she is not self-employed, the best course of action is going to be to sign up for a 401(k)403(b), or other employer-sponsored retirement plans as quickly as possible. Most employers offer some sort of matching money up to a certain limit. It makes sense to take advantage of this. For example, if your employer gives a 100 percent match on the first 3 percent of salary, and you earn $50,000 per year, that means on the first $1,500 you have withheld from your paycheck and put in your retirement account, your employer will gift you an additional $1,500 in tax-free money that is entirely yours. Even if all you do is park it in something like a stable value fund, it's the highest, safest, most immediate return you can earn anywhere in the stock market. To leave free matching money on the table is almost always an enormous mistake.

Next, assuming he or she fell under the income limit eligibility requirements, our investor would probably want to fund a Roth IRA up to the maximum contribution limits permissible. That is $5,500 for someone who is younger than 50 years old, and $6,500 for someone who is older than 50 years old ($5,500 base contribution + $1,000 catch-up contribution). If you are married, in most cases, you can each fund your own Roth IRA.

After this was done, a good investing program would probably involve building up a series of cash reserves including an emergency cash reserve. Too many inexperienced investors have a lack of respect for cash. It's not meant to be an investment, as you learned in Saving vs. Investing. That’s why it’s important that you work to have adequate savings on hand before you even consider adding additional investments. Remember that cash is not only a strategic asset, it can dampen volatility and, during ordinary interest rate environments, provide decent yields, too.

Once this is completed, you'd probably want to start working on paying off all of your debt. Pay off your credit card debt. Wipe out your student loan debt. If you want to be extremely conservative, pay off your mortgage, too. It isn't that unthinkable. In the United States, 1 out of 3 homeowners doesn't owe a penny against their house.

After that is done, you'd want to return to your 401(k) and fund the remainder beyond the matching limit you already funded and whatever overall limit you are allowed to take advantage of that year.

Finally, you would then begin to add taxable investments to your brokerage accounts, perhaps participate in direct stock purchase plans, acquire real estate, and fund other opportunities.

Done correctly over a long career, with the investments managed prudently, it could increase your odds of retiring comfortably by a substantial amount; at least much more comfortable than a standard worker. It is simply the nature of compounding.

New Investors May Want Hire a Financial Planner, Asset Management Firm, or Other Professional

If you need help, you may consider doing what many investors do and working with a registered investment advisor, financial planner, or other professional. Finding the right one for you can be a bit of trial and error but it's an important relationship so you need to get it correct. Unfortunately, many professionals won't work with smaller investors. It sounds unfair but there are reasons for it, which I can attest to from experience. (When my husband and I launched Kennon-Green & Co., we decided our initial primary service offering was going to be individually managed accounts held by a third-party custodian of the client's choice. After a lot of discussion, we ended up setting our minimum investment at $500,000. It wasn't out of a desire to exclude a vast majority of society from using our services but, rather, it was a pragmatic business decision. If we wanted to serve small investors, we'd most likely have to launch a mutual fund at some point in the future.)

Some asset management groups have been attempting to go "down market", as it is known, servicing clients with as little as $50,000 in their portfolios. The newest entrant to this field is Vanguard, which threw in the towel in attempting to compete with the more preferred brands among the wealthy, slashed their minimum investable assets to the present level (from $500,000 previously) and dropped the advisory fee to 0.30 percent + the fees and expenses of the underlying investments the client holdings. Basically, the Vanguard advisor, which, according to one source is randomly assigned by telephone when you call the first time, helps you pick out an asset allocation using technology solutions that automate most of the heavy lifting.

Charles Schwab has a much more personalized service in its equity managed account option with a minimum investment of $100,000 and fees that start at 1.35 percent. That puts it among the cheapest in the industry at that price level for that caliber of service, especially if you compare them to the main brand regional management companies. Specifically, as of April 30th, 2016, its stated fee schedule is as follows:

  • Under $500,000: 1.35%1
  • $500,000–$1,000,000: 1.33%
  • $1,000,001–$2,000,000: 1.30%
  • $2,000,001–$5,000,000: 1.25%
  • $5,000,001–$10,000,000: 1.10%
  • Over $10,000,000: 1.05%

1. The asset-based fee covers management fees and trade executions by Schwab. It does not cover (i) certain costs or charges imposed by third parties, including odd-lot differentials, American Depositary Receipt fees, exchange fees, and transfer taxes mandated by law; (ii) charges for special services elected by you, including periodic distribution fees, electronic funds and wire transfer fees, certificate delivery fees, and reorganization fees; (iii) dealer markups and markdowns on fixed income securities; and (iv) execution of transactions in securities by other broker-dealers.

Some firms have been experimenting with so-called Robo Advisors, which are really just the automated software solutions of the 1980s once again coming around to rear their ugly heads in slightly different drag. (If you can't tell, I'm not a fan. I wouldn't invest my own money that way. I wouldn't invest my family's money that way. I wouldn't invest my friends' money that way. I don't think history has changed and placing your entire life savings in the trust of a software programmer, or more specifically, a few lines of code, strikes me as patently stupid relative to the potential benefits. For the sake of curiosity, I had a model portfolio built by one of the mainline automated portfolio platforms and it came back recommending a decent-sized allocation of leveraged foreign sovereign bonds indirectly held through so-called "safe" ETFs. It's deranged. I don't think any sane investor should be participating in something like that but there is the old saying about fools and their money. People chase crazy things all the time.  Human nature doesn't change.)

Final Thoughts About Investing for Beginners

As you explore the Investing for Beginners content, keep in mind three things I believe are important.

  1. Avoid investing in anything you don't understand.
  2. Know that almost all of the evidence points to your biggest enemy being you; not taxes, not fees, not expenses... you. If you really want to be shocked, take a look sometime at the research Morningstar has put together on the relative underperformance of mutual fund investors relative to their actual mutual funds. They buy at the wrong times. They sell at the wrong times. They behave emotionally and it costs them a lot of money. 
  3. Three, focus on how much you are paying for the underlying cash flows. Everything else is ultimately a distraction to that point. My personal philosophy is that investing is the process of buying profit or cash flow. You want the most profit or cash flow for every dollar you spend. Insist on a margin of safety and things tend to work out better than they otherwise would have.