This article will pertain solely to investors of equities. I will include real estate investing posts separately.
When it comes to investing, I put most investors into two categories: passive investors and active investors.
These investors typically don’t conduct a lot of research into the companies/securities that they are investing in. This could be because they aren’t interested, they don’t know where to begin or they don’t believe they have the time.
If you fit into the passive category but are interested in becoming more of an active investor but just don’t know how; don’t fear, it’s easier than you might first think.
Many passive investors invest in index funds or mutual funds and not individual stocks. This is mainly due to simplicity and lack of other available options in a 401k or IRA. I’ve discussed in another article the benefits and difference of a ROTH IRA vs a Traditional IRA.
This isn’t all that bad. You can put your money into an index fund like SPY that tracks the S&P 500 index and you will earn somewhere on the average of 7% per year over a long period of time if history is of any guide. That’s pretty good right?? Little effort and pretty good returns. Count me in!
My goal isn’t to beat any indexes, in fact I hardly pay attention to them. My goal is to build a passive stream of income that I can live off of without having to sell any of my holdings. This is the main problem I have with an index approach in addition to paying fees for someone else to manage them. Currently the S&P 500 Index funds, like SPY, are paying a yield of 1.96%.
So 1,000,000 invested in SPY would produce income of just $19,600 per year. I can buy a basket of individual stocks that earn an average of nearly 4% and still keep myself diversified while earning twice as much income.
Well why not sell off 4% of your holdings if you can earn 7% each year you might ask??? Things would be simple if each year the market went up the same amount. What happens in a deep recession? You are forced to liquidate stocks that may be currently undervalued. Selling during a recession when prices are quite depressed could really cripple your portfolio.
Active Investors: Active investors participate in the research and management of their portfolio and will usually include the purchase of individual stocks. Active investors usually want to have their investments be a major source of income in their retirement.
I’m in the active investor category myself. As an active investor, I have opened taxable brokerage accounts that I can use to invest in addition to any IRA’s, 401k’s, etc. I like to take a hands-on approach and treat investing like I treat my business.
I like to research the companies I invest in before I make any purchases. I also like to diversify my investments according to the sector, geographic presence and market cap of the company. I’ve previously written a business plan, My Business Plan, which outlines my strategy and sets a general guideline for all my purchases. I like to hand pick each company that goes in or out of my portfolio.
Let me be clear though; when getting started, diversification isn’t quite as important as picking sound companies. In the accumulation phase of building your portfolio, going overweight in a sector won’t matter nearly as much since you are still aggressively building and can balance your portfolio later. When you start out, you are going to have 100% of your portfolio in your first stock. It’s obvious that as you purchase more positions over time that this will correct itself.
Maybe you think it’s too much work to research and keep up with companies. Well that’s why I try and mainly stick to solid blue-chip companies like Coca-Cola (KO) or Johnson & Johnson (JNJ). I’m not too worried that KO won’t still be selling plenty of soft drinks in 20 years or that JNJ’s medical products won’t still be top sellers. These are companies with proven track records of success even during a recession. Did you know that KO and JNJ have both increased their dividends for more than 50 straight years!! Yes, right through the last recession, these companies were still increasing their dividends like clockwork.
If you can identify yourself as an active investor or someone that would like to be an active investor, I encourage you to keep reading and doing more research. I hope my articles will be helpful and encouraging.
I have a Get Started page in the works that will include a series of posts for new and experienced investors alike.
If you have any topics you’d like covered please contact me or post in the comments.