Investing in stocks
Mique Nuchu,
I hope that all of you are doing well and doing all you can to prevent the spread of Covid-19.
With the advent of Covid-19 we are experiencing a period of uncertainty, not only has this affected our health it has also affected our financial environment. Our staff is working hard to safeguard the investments of the tribal membership. The Tribe’s success has been founded on the hard work of previous and current leadership and staff; rest assured these endeavors will continue.
The world of investments is vast and we are striving to provide you with some information that we hope will be of interest to you. The following information is an overview of investing in the stock market, and is provided by Permanent Fund Investment (PFI) staff.
If you have any questions, please contact me at 970-563-0204, or 970-553-0255.
Investing in the Stock Market
The idea behind investing is simple – put aside money today so that it grows, letting you harvest the gains in the future. While in the past it was possible to grow money by putting it in an account that generated interest (for more information, please see the prior article on compound interest at https://www.sudrum.com/eEditions/DrumPDF/2020/SUDrum-20200228.pdf) today, interest rates have been driven so low that this technique is not effective. However, one of the most successful sources of long-term investment gains is still available to the general public – investing in the stock market.
Stocks are shares in companies that have gone through a regulatory process to sell their ownership to the general public. In the United States, that process is overseen by federal agencies such as the Securities and Exchange Commission. Publicly-listed companies are subject to specific rules and regulations, including requirements to share material information about their business with investors, and an obligation to provide timely and accurate financial data.
Even though companies that sell stock are regulated, investing in those stocks can still be risky. Our capitalist system has been described as a machine of “creative destruction,” where new ideas can obliterate and replace businesses that seemed permanent only years earlier. It might have been a great idea to own stock in a company that made typewriters in the 1960’s, but today you’re more likely to see a typewriter in a museum than in an office. Similarly, during the turn of the 20th century, railroads were the lifeblood of American commerce, and were stock market leaders. Now, 120 years later, while there are still railroad companies in the United States, they are a fraction of their former size and importance.
The nature of owning stock is that if the company grows, each stockholder’s share of the profits grows along with it. Unfortunately, the flip side of this means that if the company shrinks, the value of ownership shrinks as well. In the most extreme circumstances, a company bankruptcy means that its stock value can go to zero.
Stock values also fluctuate because they are bought and sold in a public market. At any given time, investors have many reasons that they might want to be buying or selling stocks. This changes the demand and therefore the price of those shares. Over the very long run, the value of stocks has a strong relationship with the profitability of corporations and the strength of the overall economy, but in the short run values can go up or down very quickly due to investor sentiment.
We experienced an example of this earlier this year, during the initial spread of the Coronavirus in the United States and Western Europe. As it became clear that the virus had moved beyond China, countries began to shut down their economies in an attempt to slow viral transmission. Although the length and depth of those shutdowns were unknown, investors reacted by selling shares at a previously unseen pace. Starting on February 19, the S&P 500 index of the largest American companies dropped by 34% in just over a month – the fastest drop of that magnitude in U.S. history. Remarkably, the market recovered those losses over the next five months, and is now trading slightly higher than it was before the crash.
Before you invest, there is one key decision that you should consider – what, specifically, you want to invest in. One of the common misconceptions about the stock market is that you need to pick individual companies. While it is true that owning a single company’s stock for many years can generate great gains, it is much harder than it sounds – in the rear-view mirror it might feel obvious that Amazon would come to dominate our country’s retail and online data, but in the early 2000’s Amazon was a money-losing online bookstore. Furthermore, even very large and well-known businesses can be long-term stock market losers. For example, Citigroup, one of the world’s largest banks, currently trades at $43 per share – a price it first hit twenty-seven years ago. Even worse, an investor who bought Citigroup stock at the end of 2006, prior to the Global Financial Crisis, would have lost 92% of their investment today, almost fourteen years later.
The simplest way to invest in the growth of the overall economy and the stock market is to buy what is called an index fund. Index funds are set up to purchase shares in all of the companies in a specific market, country, or sector. The most well-known index is the S&P 500, which was created to track the 500 largest companies in the United States. Other domestic indices including the Wilshire 2000, which tracks so-called “small cap” companies, or the Dow Jones Industrial Average, which tracks the stock performance of 30 of the largest companies in the country. There are also index funds that track stocks around the world, in regions, or specific foreign countries. There are also levered funds that use borrowed money to amplify gains and losses as well as inverse funds that bet on the index going down. These types of funds are highly risky and not appropriate for a long-term investor.
Index funds have several advantages over trying to pick individual stocks. Most importantly, they are far less volatile – while individual stock values bounce up and down based on news about that specific company, the stock market as a whole tends to move more slowly. And the slower moves up and down make it easier for you as an investor to stay calm and keep invested in the market, instead of trying to time when things are going to go up or down.
This is important in part because we know that individual investors who trade a lot tend to do far worse than the market overall – the best way for most people to invest in the stock market is to steadily add funds over many years. While we know that stocks can lose money during bad markets, over very long periods of time, stocks have been a great way to invest. In his book Stocks for the Long Run, Wharton professor Jeremy Siegel compiled data going back to 1802 for the U.S. stock market, long-term government bonds, short-term treasury bonds, gold, and cash. From 1802 – 2012, investors in the stock market earned an average of 6.4% per year, versus 3.6% for long-term bonds, 2.7% for short-term bonds, 0.7% for gold, and losing 1.4% per year by holding cash. For more information on Siegel’s book and research please see https://traceviewfinance.com/stocks-for-the-long-run-jeremy-siegel-2020-book-review/
So once you’ve decided you want to invest in stocks, how can you get started? The easiest way to begin investing in the stock market is to utilize retirement accounts set up by your employer. For more information on saving for retirement, please see the prior article on retirement accounts at https://www.sudrum.com/eEditions/DrumPDF/2020/SUDrum-20200702.pdf. And for those of you who work for one of the Tribal organizations, you can always contact your Benefits Coordinator to learn more.
Outside of investing through a retirement account, there are many ways to invest in the stock market. You don’t need thousands of dollars to invest – even if you want to set aside $10 every week there are easy and efficient platforms that can let you get started. There is a good article at Investopedia (https://www.investopedia.com/articles/basics/06/invest1000.asp) that suggests different ways you can invest. These can include setting up a traditional brokerage account, using online platforms such as Vanguard, Fidelity, e-Trade, or Charles Schwab, or investing through “robo-advisors” which are new companies designed to use technology to provide individual investors with guidance on long-term investment strategy. If you want to have an investment relationship with somebody in our area, you can find a local advisor who is a Certified Financial Planner at https://www.letsmakeaplan.org/.