When you hear the word stock trading, the first thing that comes to mind is a complicated world of charts and numbers that you cannot make sense of. There can be a lot of confusion when you are looking to get started in trading stocks, so make sure you do the necessary steps to educate yourself before diving right in. That said, we put together this checklist to help you so that you'd know how to start trading in the stock market as smoothly as possible.
1. Have the essential skills in stock trading
Do you want to start trading stocks actively? Or do you prefer investing in the long-term? This is just one of the many questions that need concrete answers in the world of stock trading. There are certain skills that you must possess to succeed in this endeavor. When you know what to expect, and you know what tools will help you prepare for your stock trading journey, you will get a good head start, and that can go a long way.
- be decisive
- don't stop learning
- Be an active risk manager
The market moves fast and will take out the ill-prepared investors and the sluggish investor so one of the most important skills to have is to analyze data and information at a quick pace.
Traders must make a determination about what action they're going to take based on a careful analysis of a company's quarterly reports, disclosures and other pertinent information about the company.
Technical traders, on the other hand, must be able to find good entry and exit points by interpreting price action swiftly.
Trading is always an opportunity to grow and develop. Each trade has a different story and offers learning opportunities. It's crucial for a trader to be open to continuous learning as it allows them to actively seek answers as to why a trade had gone wrong and what made a trade successful.
One of the key skills that losing traders forget is that they need to be able to manage risk as well. Trading is not just about becoming the best stock analyst or being able to time the market (which is impossible). But trading is more about having a concrete understanding of risk.
What that means is that traders must carefully enter a trade with a firm grasp on what they stand to lose and what they stand to gain and accept the outcome even before pulling the trigger.
2. Understand the concept of stock trading
We briefly discussed how stocks work in this post. Stocks are ownerships of a company that are offered to the public.
The stock price (aka "share") signifies the value of the company to be determined by the people trading the stock.
Stocks don't have a set price as they constantly fluctuate each second of the day and stocks trade on an exchange.
Such an example is the New York Stocks Exchange (NYSE), which operates in the hours of 9:30 a.m. to 4:00 p.m. Eastern Time. Most of the buying and selling of stocks occur during these hours (although some trading does take place out of these hours).
Now trading and investing -- although both have a predetermined end goal which is to earn profits -- are different in nature and one must not confuse them. Trading is a short-term activity wherein the time frame to gain a return from the risked capital is significantly much shorter. Investing, on the other hand, is a process where the time horizon is extended possibly until the business no longer seems viable. So, when it comes down to it, for a more substantial and longer income stream, you want to focus on the option that is for the long haul, which is investing.
3. Stocks vs. mutual funds
There are different types of investments; I can lay down 4 of them right off the bat. But that could be discussed on a different post. In this article, I will touch on stocks and mutual funds and how they compare to each other. Purchasing a stock is an investment into a single company, while mutual funds hold numerous investments — potentially hundreds of stocks within a single fund.
Stocks are generally riskier than mutual funds. Mutual funds reduce risks by combining a lot of stocks in a stock fund or bonds in a bond fund. For example, if one company in the fund has a poor-performing strategy, the loss is balanced by other businesses that are performing well.
Because of this diversification, investors go for mutual funds since it provides the benefits of stock investing with lower risks.
Note: Mutual funds do not require as much time to research because a fund manager does that for you. But you still need to know how fund managers will manage your money so you must at least be aware of their strategy.
4. Mutual funds vs. ETFs (exchange-traded funds)
Now that you have an idea about what a mutual fund is, you might be interested to know what compares to this type of investment. I can think of one in particular - ETFs. Basically, an ETF works this way: the fund provider owns the underlying assets, designates, and plans a fund to track performance and sells those shares to investors. Once these investors become shareholders, they own a portion of an ETF. However, they don't own the underlying assets in the fund.
Generally, mutual funds and exchange-traded funds (ETFs) are somehow similar. Both funds consist of many different assets and offer diversification. The difference between the two is how they are managed. Mutual funds are actively managed by the fund manager to make decisions on the allocation and buying/selling of assets within the fund.
Meanwhile, ETFs are passively managed, as they typically track an underlying index, so they are still a low-risk method of gaining access to the market. Therefore, ETFs are more tax-efficient and can cost far less as a start compared to mutual funds that come with a higher minimum investment requirement since they are, after all, actively managed by a fund managers (which means you pay them while they do it).
5. Stock trading using CFD
While ETFs are considered a low-cost investment and a match for people who like conservative investments, CFD (contract for differences) is best for those who want to trade a stock but don't want to carry the associated costs of owning one.
Purchasing a stock, let alone getting in and out of a stock position can be expensive. Stock brokers charge a ton of commission for that. CFDs, for those short-term traders offer a huge advantage as the cost to trade it is very minimal.
CFDs are financial contracts that returns the differences in the settlement price between open and closing trades. Moreover, CFDs allow traders to trade in the price fluctuation of securities and derivatives. Derivatives are investments that are derived from an underlying asset. This means CFDs are used by investors to make price bets as to whether the price of the underlying asset or security will rise or fall.
You can check out our review about City Index, which is a CFD broker.
6. Opening a trading account
Let us say you have obtained all the information you need and ready to take the plunge. The next step you will be dealing with is opening a trading account. A trading account is the only account that you will use for anything about investments. There are various types of trading accounts like cash accounts and margin accounts. You will use it to purchase stocks, hold cash, securities, etc. A trading account will be held by a financial institution, but managed by your broker to run your trading strategy. Below are some tips on finding a broker:
- Go for the regulated broker (this is of paramount importance)
- Someone with the right platform and capability to support your needs as an investor
- Honest and reliable (no dishonest scheme or risky behaviors)
Each broker offers a trading platform. This is where you can view stock quotes, have a look at charts and conduct analysis, and where you can place your orders.
Pro tip: Test the waters by opening demo accounts with various brokers. Use idle cash in your bank account. Never use your retirement check for stock trading.
Brokers will have different policies on how your privacy will be handled, but the requirements in opening a trading account are roughly the same across the board. Get to know the brokerage firm's rules on handling personal information. Below are the usual personal data any regulated firm will collect:
- Full name
- Phone number
- Working e-mail address
- Social Security number
- Other personal information like your date of birth, US citizenship status, place of employment, and tax bracket
- Approximate annual income and net worth
Your chosen broker needs all this information so they can contact you to discuss anything related to your trading account in terms of sales or purchases. To get an idea of how to open a CFD trading account through CFD provider, this post might help.
Doing the actual trading is an achievement in itself, but being successful is another story. Set your goals and constraints. Establish what you want out of stock trading. Once you have gotten the hang of it, you will eventually find a strategy that works for you.