Sunday, January 12, 2014

Beginners Guide To Investing With Limited Funds

While there are many readers of this site that execute $10,000 trades like it's nothing - many of you might have stumbled upon Seeking Alpha because you are just starting out in your investment journey. For you, investing $50 or $100 a month is about all you have.

Don't be discouraged, or worse yet, not invest money each month just because you don't have very much.
I remember in 2008 and 2009 having no job and very little money. But I wanted to invest the small amount of money I could scrape together each month in what I believed to be undervalued companies that could go up in the years ahead.

I'm sure glad I was right, but more importantly, I'm glad I started investing with a small amount of money because it made me more diligent & careful with where I invested my money.
So in other words - be proud you only are investing $20 dollars at a time. It's better than zero! And more importantly, don't be discouraged or intimidated by not having lots of money to invest ... you can learn a lot with a little.

FEES

The four letter word in finance, that's often buried deep inside financial documents or not properly disclosed to the novice investor.

There are many different types of fees, but the 2 you want to be the most aware of when you are first starting out are Trading & Management fees.

Trading Fees

You've probably seen on TV (and possibly on this website) brokers advertising $8.95 equity trades. That basically means you are going to pay $8.95 each time you want to buy or sell the stocks, ETFs or funds you want to invest in.

Most traders you read about on this website will rarely talk about the $8.95 fee they are paying for each trade because they are trading 100's or 1,000's of shares at a time. However, if you only have $100 to invest, paying $8.95 is 8.95% of your investment whacked right off the top into the already filthy rich pockets of an investment bank.

You don't want that.

Remember, this fee is for both buying & selling. You do want to profit from your investments one day right? That means you can't avoid paying the fee at least twice.

Fees: $8.95 fee to buy + $8.95 fee to sell = $17.90 total.

So you can see how if you only invested $100 - your investment would have to rise 17.9% (or $17.90 dollars) before you break even! In other words, your stock could perform great and you won't make much (or any) money.

You really don't want that.

Good news is that you have ETFs and mutual funds that allow you to buy & sell with no fee. That means you can buy 1 share for $20.00 and if it goes up to $20.10 - you can sell it and pocket a nifty $0.10 profit (some might laugh, but I've done this before). I will list some commission free ETFs I have traded or own in a little bit, but before I do that, I want to discuss the second type of fee you will want to be aware of.

Management Fees

When you invest your money in a company stock, the 'fees' associated with that investment are basically the costs of running the company. So wages, inventory, sales, administrative, legal ... ect are all costs that will subtract from any profits you might share with the other owners of the stock.

With ETFs and other funds, the investment bank needs to charge you (and the other investors) a fee to cover things like manager salaries, listing fees, marketing costs, office space and more. This fee is usually expressed as the net expense ratio.

For example, a fund with a net expense ratio of 1% "means that each year 1% of the fund's total assets will be used to cover expenses."(WikiPedia)

We know that 1% of your piddly $100 dollar investment is nothing. However, keep in mind that you are trying to grow you money - and with some discipline & luck you might have $100,000 or more invested in the market one day.

1% of $100,000 let alone 1% of $1,000,000 is a lot of money.

Keep in mind that most money managers aren't worth paying for. Warren Buffett once said "Wall Street is the only place that people ride to in a Rolls Royce to get advice from those who take the subway." (BrainyQuote)

So in other words, don't let the three-piece suit and Mercedes Benz impress you .... those guys are on Seeking Alpha reading (and writing) articles along side you.

Time To Start Trading

Okay, so it's time to put some money to work. One hurdle I had when wanting to only invest $20, $30 or $100 dollars at a time was most brokerage accounts required a minimum deposit of $1,000. When I told you I was broke in 2008 & 2009 - I wasn't lying. I didn't have anywhere near $1,000 to my name.
However, many investment banks started retail banking divisions during the financial crisis and started accepting regular ol' check & debit card transactions. One of those companies was Charles Schwab SCHW.

This might sound like a complete sales pitch, or that Chuck himself is somehow paying me to write this - but honestly it's been the best bank account I've ever had. They refund every single one of your ATM fees (including the $5.99 ones in Las Vegas). It's $0 minimum balance.
And the best part about it? Schwab waives the $1,000 needed to open a brokerage account.

Awesome, so now it's time to invest some money.

Schwab allows you to trade their ETFs (and Schwab mutual funds) along with a list of about 100 other ETFs commission free.

Additionally, many of Schwab's ETFs have some of the lowest expense ratios (manager fees) of any ETFs on the market.

Sweet - so we're avoiding trading fees (by trading in a Schwab account), and the management fees are some of the lowest in the industry, lets take a look at some of the funds.
SCHB - Gross Expense Ratio = 0.04% (that's really low)
The ETF offers diversified exposure across large- and small-cap U.S. stocks. It seeks investment results that track performance, before fees and expenses, of the approximately 2,500-stock Dow Jones U.S. Broad Stock Market Index.
SCHX - Gross Expense Ratio = 0.04%
The ETF provides exposure to large-cap U.S. companies. It seeks investment results that track the performance, before fees and expense, of the Dow Jones U.S. Large-Cap Total Stock Market Index made up of approximately the largest 750 U.S. stocks.
SCHG - Gross Expense Ratio = 0.07%
The ETF provides exposure to large-cap U.S. stocks that exhibit growth style characteristics. It seeks investment results that track the performance, before fees and expenses, of the Dow Jones U.S. Large-Cap Growth Total Stock Market Index, representing approximately half of the market capitalization of stocks in the Dow Jones U.S. Large Cap Total Stock Market Index.
SCHD - Gross Expense Ratio = 0.07%
The ETF seeks investment results that track, as closely as possible, before fees and expenses, the total return of the Dow Jones U.S. Dividend 100 Index.
SCHV - Gross Expense Ratio = 0.07%
The ETF provides broad exposure to large-cap U.S. stocks that exhibit value style characteristics. It seeks investment results that track the performance, before fees and expenses, of the Dow Jones U.S. Large-Cap Value Total Stock Market Index, representing approximately half of the market capitalization of stocks in the Dow Jones U.S. Large Cap Total Stock Market Index.
SCHM - Gross Expense Ratio = 0.07%
The fund's goal is to track as closely as possible, before fees and expenses, the total return of the Dow Jones U.S. Mid-Cap Total Stock Market Index.
SCHA - Gross Expense Ratio = 0.08%
The ETF offers exposure to small-cap U.S. companies. It seeks investment results that track the performance, before fees and expenses, of the Dow Jones U.S. Small-Cap Total Stock Market Index SM made up of approximately 1,750 U.S. small cap stocks.
This is just a summary of Schwab's ETFs. It also seems like every few months they send me an e-mail with new offerings. You can also invest in Mutual Funds, which can be traded with no fee & no load as well. The list of one's Schwab offers is here. Keep in mind with Mutual Funds, often the minimum initial investment is $100 or more. That being said, most subsequent investments can be as little as $1 dollar.
My experience has been with Schwab, but you will find others in the brokerage community offering similar services. I encourage you to investigate and find the one right for you. Feel free to call these people on the phone and ask them a bunch of questions before you sign up - that's what those management fees you will be paying are for.

I hope, if anything, this will encourage you to invest & save some of your money, even if you don't have very much right now. By avoiding trading fees - you will be able to put more of it to work.

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