Stock investments are arguably one of the best ways to grow your wealth if you happen to have a bit of money to spare. If you know how to invest properly, how to manage your investments, when to enter and exit, and alike.
They are even a good option during great market volatility, and this might be one of the best times to invest, as recent events have left the stock market pretty low, despite the strong recovery.
Of course, one of the most common concerns investors hear from people when stock investing comes up is the risk. Nobody wants to lose their money, and that is perfectly understandable. After all, they are not wrong — the risk is involved.
However, by educating yourself on what those risks are, and how to take appropriate actions to mitigate them, the stock market becomes a lot less risky, and a lot more profitable. This is what we will tackle today and see what is the safest way to invest in stocks.
Know the risks
When we talk about the risks of investing in the stock market, there are really two different kinds of risks that you should be aware of. Indeed, these are not unique to the stock market, but rather the entire trading and investment industry.
The first risk is the one that you cannot really do anything about. It is the risk that is based on the relationship between the price of your investment and the entire stock market.
For example, if the entire stock market were to crash, no matter what you invested in, the price of your stocks is going to follow, as well. There is almost nothing you can do about it and no smart investment decision that can help you out that much in this situation.
This is what happened in 2007-09, and it happened again earlier in 2020, due to the COVID-19 pandemic. These are, of course, only the most recent examples, but the investment history is full of such events.
Of course, this will likely not affect you that much if you are patient and willing to invest long-term. After all, the prices will always recover, as long as the company you have invested in can survive.
As for the second risk, that is a lot more manageable, and it revolves around the relationship between the price of your investment and the company you have invested in, itself.
In other words, investing in strong companies that make good decisions is likely going to result in their stock price surging up and up. Small corrections here and there are to be expected, but unless the firm screws up big time, your investment should be safe.
Of course, to know which firms to invest in, you need to do a massive amount of research and become thoroughly familiar with its past performance, roadmap, products or moves, and even with its officials. You need to understand how investors think and feel about the firm as a whole, as well as different aspects of it.
How to reduce risks?
The risks cannot be eliminated completely — that is simply a fact. However, you can reduce them if you know what to do and what kinds of measures to take. Let's take the entire state of the market as an example.
As mentioned earlier, you can't do much when the entire stock market collapses. We had seen it happen in 2008 when the banks' greed caused the economic meltdown and a worldwide financial crisis. People have taken to calling it the Great Recession when the banking system was near total collapse, and unemployment went sky-high.
The consequences for the stock market were massive, and there is nothing anyone could have done to prevent losses, apart from abandoning the market right before it all happened.
So, how do you fight against that?
Well, there are two things you can do. You can either invest in stocks that are recession-resistant. This leaves you with a relatively limited selection, but it is possible to find them. You can go for healthcare stocks or utility stocks. Military and defense contractors are also a relatively safe investment, but so are tobacco and alcohol stocks.
These are the things that can resist rather well, and investing in them should be safer than other things.
Alternatively, you can opt for the second approach, and simply wait. A market correction can be massive and last a while, but if you are willing to go for long-term investments and wait for a decade or two, the prices will definitely recover in that time.
Now, let's talk about how you can mitigate our second kind of risk — the one that can affect your gains on the individual company level.
The best way to do that is to simply not keep all of your eggs in one basket. What this means is that you need to diversify your portfolio as much as you can. In fact, experts suggest investing in at least 10-15 different stocks. That way, even if one or two firms were to go down, or even an entire specific industry collapses — the fact that you invested in various firms from various branches will keep your overall investment safe.
You can also opt to go for mutual funds. These are major groups of different stocks, such as the S&P 500. Investing here means that your investment will be spread out among 500 different stocks. This is an extremely safe way to approach investments, as the fund as a whole is unlikely to crash.
Of course, it is possible, we have seen it happen earlier this year. However, such unfortunate events are rather rare, and your investment is far more likely to be successful as you don't depend on the performance of a single firm.
Naturally, this also means that the success of a single firm is also not going to affect your gains all that much. But, overall, these funds tend to perform rather well and see decent growth over time. So, once again, if you are willing to wait a few years, you can see some decent returns.
Where to start?
Your first step in order to be a successful investor is to identify the type of stocks you want to invest in. Here, you may choose between mutual funds or ETFs, and individual companies' stocks, like we discussed before.
Once again, mutual funds are inherently diversified, which makes them less risky. On the other hand, individual firms' stocks have a chance of seeing a meteoric rise, but come with a greater risk of just as big of a drop, so you need to decide how much risk you are comfortable with.
On top of that, you should also consider whether you want to do it all yourself, or if you would rather higher assistance in the form of low-cost investment management.
This is entirely your choice, and it depends on the type of approach you prefer. If you are a DIY type of person, you might rather try things out on your own. Do your own research, make your own investment, and manage them all by yourself.
If you are busy, or you do not want to be bothered with the technicalities, you can opt for hiring a brokerage firm that can do everything for you, based on your specific investment goals. You simply provide them with instructions and they do the rest.
Author: Ali Raza - A journalist, with experience in web journalism and marketing. Ali holds a master's degree in finance and writes extensively about the financial markets and fin-tech industries.