For many, trading securities is not a choice. It is a necessity, a mandatory step towards building wealth and saving enough for no-worry golden years. Stats show different percentages of a country’s population engaging in this practice, depending on the territory analyzed, due to a myriad of factors outside the scope of this article. But, to paint an overall picture, going by a 2020 Office for National Statistics survey, around 36% of UK residents own shares of stocks, and in the US, Gallup suggests that this number is 55%, with 75% of Gen Z members and 60% of Millennials investing in stocks, per a 2021 Bank of America Research. Hence, in the developed western or westernized regions, a third to half of people receiving a regular income seek to put their money to work. In other words, they are planning for the future. Despite some of them living paycheck to paycheck, they are wise to the fact that looking ahead is paramount.
Without question, it is vital to understand the risks and uncertainties that come with investing beforehand. These must get carefully assessed prior to anyone diving deep into this endeavor. During that evaluation, an investor-suitable trading style should naturally emerge. When choosing to trade securities, everyone must factor in their risk tolerance, time horizon, goals, and other factors that will define their trading journey. There is no one-size-fits-all approach. Various tactics exist. And not each applies ideally to every person’s long-term/short-term aim and funding opportunities.
As a rule of thumb, three dimensions define investing. They are how one conducts this pursuit, actively or passively, what types of companies one should focus on, large-cap, medium, or small-cap, and when to expect held securities to start producing satisfactory/expected yields. Naturally, the practice should get paired with the best investment management software for accurate performance tracking, leading to informed decision-making. Below, we quickly summarize the five most functional styles applicable to trading stocks.
Index Investing
An index in investing refers to a measure of performance, a benchmark for a specific market segment, or the market as a whole. Index investing is a passive trading game plan, implementing a buy-and-hold tactic that aims to generate returns similar to a broad market index like the Dow Jones Industrial Average or the S&P 500. It involves purchasing a diversified portfolio of assets, an index fund, that closely monitors an underlying index, hoping to replicate its performance.
In general, index funds are not as expensive as actively managed ones, do not require as much analysis, and can save traders money on fees and expenses. These are things many newbie investors are not aware of. Furthermore, these funds are easy-to-understand, diversified, and have reasonable potential for long-term growth. Though their cons lie in that they offer limited flexibility, have no potential for outperformance, and traders have no control over individual stocks.
Warren Buffett, the chairman, and CEO of Berkshire Hathaway, one of the world’s foremost trading experts, has suggested index funds as an effective training style for most people, as this is, without a doubt, a good option for those wanting a low-cost, low-maintenance method of gaining exposure to the stock market.
Momentum Investing
When someone concentrates on attaining stocks that have performed well recently, with set expectations that this trend will continue, that individual is partaking in momentum investing, whether they understand this or not. The theory behind this operation is that trends often persist in the marketplace. Though this is not always accurate, such beliefs have some factual bases in trading.
Usually, the most common positives for momentum investing are that it is a relatively simple approach to follow, as pre-set tried-and-tested technical analysis and quantitative models for its implementation exist. It provides a degree of risk management, as this tactic avoids stocks that are displaying a declining momentum, and during bull markets, this approach can provide a chance for more than decent short-term returns. Its prime drawback is that volatility can dramatically impact performance since the goal here is the production of short-term results, and the danger that the spotted price impulse will reverse always looms.
The author of the renowned book – What Works on Wall Street, James O’Shaughnessy, is a proponent of using quantitative models to identify high momentum stocks, and the founder of AQR Capital Management, Cliff Asness, is another champion of this method, as he has utilized momentum-based schemes in his firm’s quantitative hedge funds.
Value Investing
Value investing is a passively-managed game plan of identifying and pouring money into undervalued assets. The expectation is that, in time, these will reach their correct evaluation in the marketplace and rake in massive profits.
In many financial experts’ eyes, Warren Buffett’s claim to fame is his favoring of value investment strategies. And one of his most famous moves that still gets studied today is his investment in Dempster Mill, a manufacturer of farm implements and water systems. Originally, Buffett paid around $28 per Dempster Mill stock in 1956, and over time, eventually wound up owning 70% of the company, gaining a controlling interest. When he decided to sell this farm equipment manufacturer, it had a book value of $80 per share, netting him a sizable return. Accordingly, value investing entails having the foresight to see potential where others cannot. Not everyone can do this, and not everyone has the discipline to maintain a long-haul view and focus on fundamentals.
The chief reason why many avoid value investing is that it can take a long time for undervalued assets to climb to a point where an investor can snag profits that justify his wait. Moreover, limited diversification is something many are wary of, and they also fear value traps and misidentifying quality investment opportunities.
In his book – The Intelligent Investor, Benjamin Graham outlines the criticalness of this worth-seeking trading initiative, highlighting that traders should only purchase stocks with a sufficient margin of safety and distinguish between investing and speculating.
Growth Investing
This style principally focuses on growing an investor’s capital by acquiring shares of emerging companies that provide impressive returns. Investors implementing this master plan look for publicly-traded business entities expected to grow above-averagely compared to their sector competitors or the general market. These are often younger, smaller companies poised to expand. The factors determining their investment worth to veteran traders are returns on equity, share price performance, profit margins, and historical and future earnings growth.
The main allure of businesses that fit the above-cited criteria is the potential for high returns. Though some of the hazards of buying shares in what are primarily unestablished industry players are that their stocks can be super volatile, they provide limited dividend payouts. And there is a valuation risk in play, as many growth stocks can easily become overvalued.
Notable investors that have taken this trading method to their heart are former Fidelity’s Magellan Fund portfolio manager Peter Lynch, the investor of the CAN SLIM system, William O’Neil, and Philip Fish, the author of – Common Stocks and Uncommon Profits.
Income Investing
Configuring a portfolio so that its primary objective is to generate a continuous stream of positive returns gets called income investing. It is not very important where the money rolls in from, meaning it does not matter if the cash is from interest payments from bonds, stock dividends, or whatever other origins. It is just essential that it keeps rolling in regularly. So, that means that income investors are more interested in creating ongoing cash flow from their investments than capital gains over time. From many, this practice is associated with creating income in retirement and customarily can include owning rental real estate and money market mutual funds.
In most cases, the types of investments that incorporate this strategy carry low risk, supplying a reliable source of lower-level income that one can use to cover their main living expenses. The cons of this gambit are that inflation can erode the value of the money coming in, and securities that income investors favor, like bonds, can be quite sensitive to changes in interest rates. These can be pretty impactful on the income generated by them.
The common choices for those who prefer this money-attaining system are companies that offer dividend-paying stocks like Coca-Cola, Procter & Gamble, utility ones, and real estate investment trusts.
To Wrap Up
In conclusion, these are only five investment styles. The ones that many experienced financial analysts consider as most proven. Value investing likely requires the most knowledge from this batch and is best left to those with loads of information at their disposal. The growth-based scheme holds the most risk, and index trading is the system to follow for casual investors who are only looking to be in line and grow with the market.
It goes without saying that each style has its unique characteristics, opening different doors for investors to hit their financial goals. Whatever method a person chooses from the five rattled-off above, they must know they cannot let their emotions interfere with their investment activity at any point in this venture, understand all the fees and costs involved, and stay disciplined. Patience is an indispensable attribute to possess for all who wish to send their accumulated funds to work, hoping they will do well and return sizable profits.
