Close to half of Americans don’t own any stocks, according to a recent Gallup poll — meaning they’re missing out on an opportunity to build wealth and combat rising inflation.
You don’t have to know that much about the stock market to start investing, according to Rebecka Zavaleta, creator of the investing community First Milli. Many people have created wealth with very little knowledge about the different types of stocks to invest in, says Zavaleta.
That’s because most financial experts recommend diversifying your portfolio by purchasing index funds, which track entire markets or sectors rather than individual companies. Picking individual stocks is more complicated and risky.
As a beginning investor, these low-cost index funds are generally your best bet.
Where to Invest $500 Right Now
Sometimes investing advice can conflict, depending on who you ask. However, for beginner investors, experts tend to agree on these three things:
- Play it safe. Start with investing $500 with index funds via mutual funds or exchange-traded funds (ETFs). Index funds are bundles of stocks that are bought and sold together in one package. They are constructed to match a specific financial market index, like the S&P 500 (Standard & Poor’s 500 Index). Some index funds also focus on industry indexes such as tech or healthcare. You can manage and invest through retirement accounts such as 401(k)s or Roth IRAs.
- Diversify your portfolio. Spread out your investments into different stocks or funds to mitigate the risk of one of them failing.
- Invest early and regularly. After your initial investment, it’s recommended to continue contributions so your wealth continually grows. Try to contribute on every payday with a little as $50.
“Stock investing is inherently risky, and investing in individual stocks only maximizes that risk,” says John Stoj, founder of Verbatim Financial, a financial advisor firm in Atlanta. “That said, investing in the stock market has historically been the best way to grow savings over time, and people should begin investing as soon as possible — even with as little as $500.”
“Index fund investing can sometimes be seen as boring,” says Zavaleta. But “what many don’t realize is that annual returns can be around 7 to 10% after fees.”
That’s a great return on investment, and “a tried and true strategy for Americans since the 1950s,” says Zavaleta. “Index funds allow you to invest automatically while living your life and not worrying about the stock market moving up or down,” continues Zavaleta.
If you are interested in investing outside of index funds, you may want to seek advice from a financial professional or take courses on investing strategies.
Large-Cap, Mid-Cap, and Small-Cap Stocks
Within the market, companies are seen as having a large market capitalization, a small one, or something in between. Index fund investors, especially those investing within a 401(k) retirement plan, often have the option to invest in funds of stocks based on their market capitalization.
Large-cap stocks are typically from companies worth more than $10 billion. “Large-cap stocks are generally safer but slower growing than other classes,” says Asher Rogovy, chief investment officer at investment advisory firm Magnifina in New York City.
Most people would recognize large-cap companies with household names such as Amazon, Apple, and Microsoft.
Mid-cap companies are worth between $2 billion and $10 billion and can be an attractive investment due to their moderate risk and room for growth.
Examples of mid-cap companies are Dunkin Donuts, GrubHub, and Avis Car Rental.
Small-cap companies are worth less than $2 billion and typically include regional banks, energy companies, and retail brands such as Bed Bath & Beyond and FitBit Inc.
Small-cap stocks generally represent a high-risk, high-reward type of investment. Yes, there is room for growth, but these small companies can be vulnerable during a recession or difficult business climate.
|Large-Cap||• Less volatile|
• More stable
• Relatively safer
|• Expensive shares|
• Limited room for growth
|Mid-Cap||• More affordable shares|
• Potential for higher reward
• Subject to volatility
|Small-Cap||• Most affordable shares|
• Potential for higher reward
|• High risk|
• Subject to volatility
Domestic Stocks and International Stocks
Domestic stocks are shares of companies headquartered in the investor’s home country.
International stock is issued by companies overseas and may trade on different exchanges around the world.
When diversifying or spreading out your investments, experts typically recommend a mix of both. One country’s economy may have a slowdown while others may be thriving.
Common Stock and Preferred Stock
“Common shares are what most people think of when they talk about stocks,” says Stoj. Common stock owners have partial ownership through purchased shares of the corporation. They even have voting rights for the company’s board of directors. “On the flip side, owners of common stock are the first in line to accept any losses,” says Stoj.
Common stock has broad appeal and may be suitable for experienced investors. Preferred stock, meanwhile, also allows investors to partially own a piece of a company, but with a couple of big differences.
Preferred stocks “always pay dividends,” says Leslie Thompson, managing member of Spectrum Management Group, a financial planning agency in Indianapolis, referring to the payouts companies dole out to their investors. “But preferred stockholders don’t have voting rights. For people focused on a more stable form of income, preferred stock is best.”
|Common Stock||• Growth-focused investment|
• Voting rights on company decisions
• Good for long term-investors
|• First in line to accept losses|
• Doesn’t get priority for dividend payments
|Preferred Stock||• Income-focused investment|
• Priority access to dividend payments
• Suitable for retirees seeking income sources
|• No voting rights on company decisions|
• Growth can be limited
Growth Stocks and Value Stocks
At certain points in their life cycles, a company’s shares can either be considered a growth stock or value stock.
Growth stocks are considered to have the potential to eventually outperform the market. Investors buy shares at a high price but anticipate the company will continue to grow. “Growth stocks typically do not pay dividends because the company reinvests their profits to accelerate their growth,” says Wes Ashton, portfolio manager at wealth management firm Harbourfront Wealth Management in Canada.
Value stocks are from companies trading below what analysts estimate they are worth. One reason why a value stock could be trading below its worth could be a bad public relations story but with the potential to rebound.
|Growth Stocks||• Above-average PE (price-to-earnings) ratio|
• Valued appropriately or overvalued
|• Subject to volatility|
• Low-dividend payout
|Value Stocks||• Undervalued in price|
• High-dividend yield
|• Low PE (price-to-earnings) ratio|
• Less-growth opportunity
It’s typically big news when a company files for IPO (initial public offering), where its shares debut for sale on the New York Stock Exchange or the Nasdaq. For example, consumer goods company The Honest Company went public on May 5, 2021. While these events tend to generate a lot of excitement in the investor community, beginners are urged to steer clear of them.
Most IPO stocks come with added risk. “From a safety standpoint, it is best to let the company list for a while, until at least its first earnings report, so you can evaluate the company from a cash flow standpoint. Otherwise, it’s like throwing a dart in the dark,” says Daniel Milan, managing partner of financial advisor firm Cornerstone Financial Services in Southfield, Michigan.
|IPO Stocks||• Potential for large gains long-term||• Volatile price fluctuations|
• Historically do not perform well
• Low odds of success
Dividend Stocks and Non-Dividend stocks
Dividends are when a company shares its profits with its shareholders and makes periodic payments.
A non-dividend stock is when a company chooses not to pay out dividends but rather reinvest profits back into the company for the purpose of growth. This strategy is riskier because the company may fail, but it could increase share values and its future rate of return (ROR).
“Dividend stocks tend to be safer because they have excess funds that are given back to shareholders,” Thompson says. “They also tend not to grow that much because they’ve decided not to invest in growth.”
The presence or absence of dividends doesn’t mean much on its own — individuals should research why a company may or may not be issuing them and factor that into their investing decisions. Sometimes companies choose the non-dividend route because they can’t afford to make dividend payouts.
|Dividend Stocks||• Regular income|
• Relatively safer
|• Less growth potential|
|Non-Dividend Stocks||• Potential for high returns||• Riskier|
Cyclical Stocks and Non-Cyclical Stocks
The term cyclical refers to how a company’s share price is correlated to the economy. Cyclical stocks follow the economy’s ups and downs closely, and non-cyclical stocks can outperform (or underperform) the economy.
“Cyclical stocks are dependent on the economic cycle of expansion and recession,” Ashton says. “A good example would be retail, entertainment, or travel companies, which have been affected by the pandemic.”
Non-cyclical stocks are essential items needed regardless of how the economy is doing. Examples of non-cyclical products can be toothpaste, toilet paper, or soap, says Ashton.
|Cyclical Stocks||• Profitable when economy is strong||• Volatile|
• Goods and services are discretionary
• Hard to predict
|Non-Cyclical Stocks||• Can withstand poor economy|
• Steady earner
• Safe investment
|• Less room for growth and high returns|
Blue Chip Stocks and Penny Stocks
Blue chip stocks are from recognizable, large, and financially sound companies with a solid reputation to the average person. Typically, these companies have been in business for a long period of time, are stable, recognized for quality, and are thought to be resilient enough to withstand a poor economy. Examples of blue chip stocks are Coca-Cola Co., IBM Corp., and Boeing Co.
Penny stocks belong to companies that may be failing and close to bankruptcy, and their stock prices have fallen below $5 a share. While there’s potential to make money off these stocks in case a company rebounds, penny stocks are extremely risky and may be difficult to sell.
|Blue Chip Stocks||• Stable|
• Financially sound
|• Expensive shares|
• Slow growth
• Stomach the ups and downs of the market over the long-term
|Penny Stocks||• Significant upside if successful||• Few buyers|
• Limited information
• High-risk for bankruptcy
• Difficult to sell
Stock Market Sectors
Different stocks are placed into different categories or sectors. One classification system, the Global Industry Classification Standard, consists of 11 sectors, according to S&P Global. They are:
- Consumer Discretionary
- Consumer Staples
- Health Care
- Information Technology
- Communication Services
- Real Estate
For beginner investors, it’s recommended to buy a basket of stocks in a sector you feel comfortable with rather than individual stocks, Milan says.