Saving for retirement is a concern for many, and while there are multiple ways to establish and maintain savings for your future, investing in the stock market is only one of them.
The goal of investing in the stock market is to make your money work harder for you, ultimately helping to prepare for the future. Since there are no guarantees, there are some basics you should understand before investing your existing savings into something new. Read on for the basic information you need to start your investment journey.
What is the Stock Market?
To begin, you will need to understand what the stock market is. Simply put, the stock market is a virtual exchange where investors can buy or sell shares of publicly held companies.
Exchanges are made on the Nasdaq or the New York Stock Exchange, where shares of company stocks are held. The exchange centers track the supply and demand of different stocks, determining the cost of each share.
Overall, these exchanges create a secure and regulated environment for transactions to occur.
Public vs. Private Stocks
You may be familiar with the term’s public and private stocks, but what do they mean for you as an investor?
Public stocks refer to a public corporation that can offer stocks to the general public to purchase and trade. Because of the nature of public stocks, participants are seen as the stakeholders. If a company has previously been privately held, then going public means it will have listings on the stock market through a process called an initial public offering, or IPO. Through the IPO process, the investment bank backing the company will make a specific number of shares available to the general public at a predetermined price, which can be purchased, sold, and traded by the investor.
Private stocks, however, are not accessible to the general public. Shareholders are typically employees, internal investors, or a board of directors at a private company, and there are limited shares available. Because of this, private stocks cannot be traded publicly on any exchange.
What Affects the Stock Market?
Next, you may be wondering what affects the price of shares that can be publicly purchased, traded, or sold, and the answer is...everything.
While there are multiple underlying factors, the most common include:
- Supply and Demand: High demand for a stock drives the price up, and low demand for a stock drives the price down.
- Company Performance and Earnings: Investors may track a company’s earnings and performance to speculate how the stock will be affected on the market. Sometimes, the release of a highly anticipated product may result in a higher stock price for a company, but it’s all speculation.
- Economic and Natural Disasters: When something unexpected occurs such as the COVID-19 pandemic, the stock market can be negatively affected. Throughout 2020, for example, because more people were staying home, there was a decrease in demand for oil and gas, causing oil stocks to plummet. When there is more supply than demand, companies will see the negative results of that.
- Bull Markets: This term refers to the uptick in the stock market after a period of falling stock prices. For an uptick to be considered a bull market, the stock prices need to increase by at least 20% after two steady declines of 20% each.
- Bear Markets: Inversely, a bear market occurs when there is a 20% decrease in stock prices after an extended period of increasing prices.
Investing in the Stock Market
If you’re interested in investing in the stock market, the first step is deciding which way works best for you and your finances. As an investor, there are multiple options, including:
- 401(k): Many employers offer a 401(k) program, meaning that as an employee, you can divert a portion of your salary into a long-term savings account to build your retirement nest egg. These accounts are eligible for special tax benefits under IRS guidelines and sit until you reach age 59½ when the participant can start taking distributions. If you’re lucky, your employer may also offer a 401(k) match program, meaning they will match a percentage of your salary contribution, doubling what you’re putting into your retirement savings each month. Learn more about employer matching in our blog post.
- Individual Retirement Account (IRA): IRAs are a great option for individuals looking to invest in things like stocks, bonds, real estate, mutual funds, and more. As a tax-advantaged account, participants can save more money in the long-term, if funds are not withdrawn early.
- Buying Individual Stocks: If you’d like to find your own stocks to purchase, you will need to research industry trends and news about the companies you’re interested in purchasing stocks for. To do this, you will need a stock brokerage account to buy and sell investments such as stocks, mutual funds, bonds, etc.
- Mutual Funds: This type of account is managed by professionals, but includes multiple investors investing in stocks, bonds, or other assets together. Because of the combined efforts, any gains or losses from the investment portfolio are also split proportionally.
- Index Funds & Exchange Trade Funds (ETFs): Like a mutual fund, index funds and ETFs are a collection of assets in the form of stocks and bonds that can be traded. The pricing structure is determined by the market and can be managed on a stock exchange. This is a great option for new investors and is more tax efficient than other stock options.
Crash vs. Correction in the Stock Market
As with most things, there are rises and falls in the stock market as well. Whether there’s a crash or a correction, you’ll want to understand how your investments could be affected.
Crashes in the stock market occur when there is a sudden drop in stock prices, typically over 20%. Things like a catastrophic event or economic crisis may cause the collapse of the market.
A correction occurs when there is a decline of 10% or more in the market from its most recent peak. Because of the drop in market prices, a participant’s portfolio worth will also decrease. While corrections can last days, weeks, or months, the average is typically short-lived.
The goal of investing is to make your money work for you, and with proper research and execution, you can be successful in setting up a solid retirement savings fund.
Whether you’re investing in an IRA, stocks and bonds, or a mutual fund, the opportunities are endless. Make sure you budget for retirement contributions by using methods like the 50/30/20 rule or tracking your budget using financial apps. You can also use a 401(k) calculator to determine how much money you will need for retirement, which can be a useful tool for determining your investment strategy.