What is a Stock?
A stock, also known as equity, is a term used to describe the securities representing the fractional share of ownership in a company. When you buy a share of stock, you are entitled to the partial ownership stake or shares, making you the shareholder. Companies issue stocks to build wealth to expand and invest in their business. There are two main kinds of stocks, common stock and preferred stock. Common stock grants the owners rights to vote at shareholder meetings and receive dividends. Preferred shareholders do not have voting rights, but they are entitled to receive a certain level of dividend payments before other shareholders. Stocks are categorized into large-cap, mid-cap, and small-cap stocks based on the company size, as shown in its market capitalization. The company’s performance will affect shareholder’s returns. Simply put, the stock owners gain profits when a company does well. Conversely, if the company underperforms, stockholders would have diminished returns. In the worst-case scenario, bankruptcy could cause the shares to become worthless.
How does the stock market work?
The online stock market facilitates issuing, buying, and selling stocks between individual investors, institutional investors, and companies. It is also referred to as one of the most-watched the stock market indexes, such as the Dow Jones Industrial Average (DJIA). It includes a section of the stock market and their performance, representing the entire market since it is hard to track down every company. Anyone can invest in the stock market with a brokerage account, robo-advisor, or employee retirement plan. The stock market is regulated by government agencies such as the Securities and Exchange Commission (SEC) in the United States with a three-part mission: protect investors, maintain fair, orderly and efficient markets, and facilitate capital information.
The Dow Jones Industrial Average (DJIA) (Sourced from WSJ)
Companies listed on the components section on the Dow Jones Industrial Average (Sourced from Markets Insider)
Global Reach and Performance
The United States is a mature market and consistently ranked among the best internationally for its competitiveness and ease of doing business. The S&P 500 is an American stock market index that represents the market capitalization of the top 500 countries listed on the NASDAQ and the NYSE. Several large-cap companies such as Apple, Amazon, Tesla, etc. are listed on this index. Investing in the US stocks would also open more opportunities. According to CNBC, the S&P 500 gained 16.26% at the end of the year, with stocks gaining more than 100%. A $10,000 investment in the S&P 500 at the beginning of 2001 would be worth around $43,500 today. In addition, investing in the US stock markets would bring accessibility to other global markets as there are many well-known global companies listed. This makes it attractive and feasible to investors who want to expand into the global markets.
S&P 500 in 2020 (Sourced from The Washington Post)
Diversification
Investing in the US markets helps to diversify the portfolio. This means owning stocks from several industries, countries, and risk profiles to minimize risks. It is essential because the US stock market recovered quickly from its downfall due to the COVID-19 pandemic. Taking the example of geographical diversification, investors can be part of the global growth by investing in the US stock market as this could bring exposure and connect to other markets. For instance, if you invest in Alibaba, China’s biggest retailer, you are automatically a part of the Chinese economic growth. In addition, there are also diversified U.S companies that have a high potential for investments, such as Johnson & Johnson, 3M, Berkshire Hathaway, The Walt Disney Co., and many more.
Volatility
The US stock market may be highly volatile and may bring significant investment risks. However, volatility can also be a friend. The volatility of a stock is the fluctuation of price in any given timeframe. It allows stockholders to review their asset allocation and enables them to shift a part of their portfolio to less-risky stocks. For example, a stock bought at $40 can be worth $100 a short time before. This could help to lower the average cost-per-share to improve portfolio performance. Besides, price fluctuations give investors opportunities to generate solid returns when correctly utilized. Purchasing a stock at a low price can bring incremental growth in the long-run by improving their portfolio’s performance when the market rebounds. When a stock price rises, investors can take advantage by selling out and invest in other areas.
Best 10 Tips for Foreigners to Invest in US Stocks
1, Determine On Your Investment Approach
· Individual stocks
Individual stocks are for the people who are willing to spend their time to conduct research and analysis regularly on the US stock market. This is a type of active investing where investors closely monitor the price movements of stocks throughout the day. Active investors can have better risk management as they can adjust their portfolios according to the market conditions. Besides, active investing provides short-term opportunities as stock oscillates most of the time. As a result, individual stocks can generate more returns better than S&P 500 funds. However, investors should avoid penny stocks even though they are cheap ( priced at a couple of dollars) as they come with substantial risks compared to ordinary stocks. Penny stock companies are small, so does their value, so they are not listed on the major stock exchanges such as the NYSE and the Nasdaq Stock Market. Hence, they are subject to less rigorous reporting requirements as they are traded over OTC.
· Exchange-Traded Funds & Mutual Funds
An exchange-traded fund (ETF) is a type of security that allows investors to buy many stocks or bonds at once. It helps to track the commodity’s price to large and diverse collection of securities across industries and countries. For example, if an investor buys an S&P 500 ETF, the money will be invested in 500 companies of that index. This provides highly-diversified foreign component to their portfolio in one transaction. ETFs are more cost-effective and liquid compared to mutual funds. Online brokers can buy and sell with just one click. Mutual funds are different from ETFs mainly because they are traded once a day after the market closes. It is important to note that mutual funds are costly due to their high expense ratio or fees charged to manage the fund.
· Robo-advisors
Robo-advisors are digital platforms that provide automated, algorithm-driven investment services. It is a brokerage that invests your money on your behalf in portfolio index funds according to your investment goals and optimizes tax efficiency. In addition, it is safe to use as it is well regulated and it helps investors to keep track of their net worth and investment analysis.
2, Assess Financial Situation and Determine Your Budget
Before making investment decisions, take some time to look at your overall financial situation and make a financial plan. Take into account your current after-tax income, expenses, overall debt, net worth, financial goals, and risk tolerance. The golden rule is to make sure you have sufficient funds and to have little or no debt at all. Be sure to pay off high-interest credit card debt. There is no guarantee that money will be gained from investments. It is essential to decide how much to invest. However, it is recommended to have a 6-month emergency fund to cover the losses incurred or unexpected situations. When determining the budget, know the amount of money required to start investing and the amount you should invest. The amount of money needed to start investing depends on the share prices. If you seek a small budget, then an exchange-traded fund may be the best choice. The money you should invest depends on the time horizon. For example, if you have a long time horizon, you may allocate a reasonably large portion towards stock funds.
3, Asset Allocation
Asset allocation aims to avoid each extreme, allowing investors to achieve high returns while minimizing volatility. Accomplishing asset allocation can help to achieve your financial goals. It involves dividing an investment portfolio among different major asset categories, such as stocks, bonds, and cash. Market conditions can affect the performance of the assets in terms of bringing in excellent or poor returns. Risks of losing money can be reduced by investing in more than one category, which will lead to smooth overall investment returns. If one asset category fails, the loss can be countered with investment returns in another asset category. Asset allocation depends on the time horizon and risk tolerance. Time horizon is the time required to reach investment goals. Risk tolerance is how comfortable you are in taking up risks. If you are old and approaching retirement, it will become less desirable to keep the money, so most financial advisors will recommend stock or stock mutual funds in your portfolio.
4, Open an Investment Account
A specialized account called a brokerage account is needed for investing, and it can be easily done in minutes through online registration. Similar to robo-advisors, a brokerage account can be opened even with little funds. You can easily fund your brokerage account via EFT transfer by mailing a check or wiring money. Residents outside the U.S. can also open a brokerage account on brokers such as Charles Schwab, E*TRADE, InteractiveBrokers, and many more. There are a few points to consider before selecting a broker. Firstly, evaluate brokers based on costs including trading commission, account fees and investor tools offered. Then, choose between a standard brokerage account or an individual retirement account (IRA). Investors can buy stocks, mutual funds, and ETFs with both account types. Those who want easy access to their funds or plan to invest more than the annual IRA limit can opt for a standard brokerage account. Alternatively, those who plan to save money for retirement can go for IRA.
5, Manage and Diversify Your Portfolio
The concept of diversification should be utilized. Smart investors do not buy all of the same types of stock but diversify their portfolio by including various types of companies and put money into different stocks, different mutual funds, and different type of funds with different volatility. At the same time, investors should only stick to the companies they truly understand and believe in. Warren Buffett, the CEO of Berkshire Hathaway and one of the most successful investors of all time, emphasized the importance of only investing in trustworthy and capable management teams. Shareholders will suffer when the management shows its insensitiveness to the interests of owners. Therefore, careful selection of business partners is crucial as it can either make or ruin the investment for many years to come.
6, Keep a long-term perspective
Investing is a long game, and money does not come tomorrow or the following year. The unfailing method to make money in the stock market is buying and holding shares as long as possible despite experiencing volatility throughout the process. This process is known as buy and hold. “Our Favorite Holding Period is Forever.” is a wise quote by Warren Buffett, who is also known for using the buy and hold investing strategy to achieve substantial returns. He stresses that if investors are not comfortable owning a stock for 10 years, they should not own stocks for 10 minutes. He runs concentrated portfolios because he strongly believes that quality businesses generate high returns and increased value in a long period. This approach is cost-saving, minimizes risks, simple, flexible, and stable regarding which individual companies and themes to prioritize. The critical long-term investment strategies include growth investing, value investing and dividend investing.
7, Do not be Emotional
Stock market investors are financially motivated. The Human Emotional Theory (HUEMO) revolves around the traditional stock market and investors. Stock traders make decisions based on psychological factors, including emotions, and may put excessive weight on specific information at the expense of other relevant data. It is not uncommon for investors to hold strong sentiments about their stock performance, concerns for price fluctuations and shifts in the stock markets. However, suppose the lack of emotional stability is left unchecked; different emotional states could have unpredictable effects on decision making at different times, which can also change the whole investing experience. Investing based on emotion (greed or fear) is the main reason why people are buying at market tops and selling at market bottoms.
Warren Buffett emphasized the importance of emotional intelligence and emotional discipline for players in the stock market field. According to Michael Batnick, director of research at Ritholtz Wealth Management, Warren Buffett’s success was not just because of his superior intellect but to stay true to his strategy during deep drawdowns. He also added that patience, discipline, and perspective that are closely tied to EQ is more important than IQ as it is the driver of successful investing. Warren Buffet told Squawk Box, “Some people should not own stocks at all because they just get too upset with price fluctuations. If you’re gonna do dumb things because your stock goes down, you shouldn’t own a stock at all”. He believes that the true power is restraint and sitting back to observe things logically. If words control us, everyone else can as well. This is why investors should have self-regulation and self-awareness to deal with the pressure caused by external situations. Investors should be well-prepared, especially when the stock volatility is known to be higher in the United States.
8, Do not time the market
Market timing means buying selling stocks based on the expected price fluctuations and getting into the market when advantageous. Warren Buffett believes that trying to time the market is a waste of time and hazardous. Market predictions distract people from making good stock purchases. The Bank of America has calculated the size of the missed opportunity for the investors who try to get in and out at the right timing.
The difficulties of trying to time the market (Sourced from CNBC)
Using data dating back to 1930, the chart shows that a firm missing the S&P 500's 10 best days per decade would result in a total return of 28%. The return would have been 17,715 percent if the investor had stayed the course through the ups and downs. The firm discovered that the market's best days generally follow the most significant drops, implying that panic selling can reduce long-term profits due to missing the best days. Besides, remaining invested during unstable times can help recover losses following bear markets, as it would take up to 1100 days. Therefore, timing the market should be based on the value of individual companies that investors believe in instead of the overall market’s direction. This could help to take advantage of discounts on companies that will, in all likelihood only be affected by a crash for a short period.
9, Invest in Well-Managed Companies
A company’s performance should be evaluated before making investments. Warren Buffett looks at Return on Equity (ROE) or stockholder’s return on investment (ROI) to evaluate whether companies have consistent performance in the past year, and ROE from the past 5 to 10 years. Past performance may not guarantee future results, but it is a good indicator. In other words, good companies mean good investments. Companies that are well-managed by people who have a keen sense of opportunities speak strongly to their future prospects as they grow and expand. The companies that have performed well in the stock markets some time eventually succeeded in satisfying the needs of consumers. Therefore, companies with excellent management will generate higher earnings over time. Besides, well-managed companies are less risky. Led by experienced and more competent people, well-managed companies have clear goals, great strategies, and a well-structured framework to mitigate the risks and cope with uncertain market situations. Moreover, well-managed companies make investments without disregarding their competitive advantages and core values. They will divest from underperforming businesses and find the right investing balance by executing an excellent portfolio to return cash to shareholders.
10, Seek advice and Investment Ideas
Having a clear understanding of the US stock market is a must. There is information that is accessible on the internet. Investors can follow companies that offer products and services according to their preferences. This can help learn more about a company’s values, competitive advantages, and how they make money. Doing research and reading up on investment strategies is helpful, but at times, friends and acquaintances who have experience in investing could give helpful advice. Besides, online forums such as Value Investors Club, myFICO, Morningstar, and others can also be helpful as the investor community is willing to share their knowledge. Finally, there are investment firms with financial planners that can work with investors of all income levels and experience.
Conclusion
Investing in US stocks will diversify your portfolio and provide gains. However, international investments are bound to have risks and disadvantages, so proper research needs to be done to have a solid understanding of the US stock market. The top 10 tips provided in this article are solely based on our opinions and might not cater to your needs. Therefore, it is important to understand your investment goals, decide on your approaches, and carefully stick to to them. Warren Buffet’s advice can be really helpful, so you can always refer to his interviews or investor must-read books with his experience and strategies. Lastly, always surround yourself with investment ideas, do not be emotional, be open-minded, and we hope you will have a great investing experience!
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