Investing can be both fascinating and intimidating, especially for those who are just starting their journey in the financial market. To avoid mistakes and increase the chances of success, it’s necessary to take a few key steps before beginning to invest. In this article, we will present the most important steps that every beginner investor should take.
Step 1. Paying Off Debts as a Priority
Before starting to invest, it’s worth considering paying off high-interest debts. Cash loans, consumer credits, or credit card debt often have higher interest rates than potential investment returns. Paying off these obligations can be more profitable than investing, as it helps avoid long-term interest costs. Additionally, by paying off debts, you increase your free capital, which you can then allocate to investments.
Step 2. Build an Emergency Fund
Before starting to invest, it’s important to build an emergency fund that allows you to cover unexpected expenses or maintain yourself in case of job loss. It’s recommended to have 3 to 6 months’ worth of monthly expenses in a savings account or time deposit. This reserve provides financial stability and helps avoid the need to withdraw money from investments at an unfavorable time, which can lead to losses.
In situations where safety is a priority, consider the most stable options, such as savings accounts, time deposits, or U.S. Treasury bills. Among ETFs, you can also find low-risk products, such as those investing in U.S. Treasury bonds or similar stable instruments like the iShares 1-3 Year Treasury Bond ETF. Having an emergency fund gives peace of mind and allows for more rational investment decisions, free from time pressure or stress.
Step 3. Assess Your Risk Tolerance
Investing is not just about mathematics; it’s primarily about psychology. People often react emotionally to market changes. When the market rises, investors are optimistic and inclined to increase their investments. However, when the market falls, fear and panic can set in, causing investors to flee the market instead of taking advantage of undervaluations to buy.
This phenomenon is known as loss aversion, which causes people to fear losses more than they enjoy gains. In the context of investing, risk aversion can lead investors to avoid losses rather than maximize gains. Therefore, it’s crucial to understand your emotions and learn to control them.
Consider why you buy without hesitation during sales in stores, but on the financial market, you succumb to fear and hesitation. This shows how difficult it is to remain calm in the face of uncertainty. The financial market is characterized by high volatility, an environment where decisions do not yield certain results and often contradict our everyday life experience.
To truly understand your risk profile, you need to experience both market gains and losses. However, you don’t have to wait for a market storm to learn this. You can prepare by doing homework before starting to invest. You can use tools on our website, such as a passive portfolio simulator or ETF scanner, which allow you to simulate how your portfolio would behave under different market conditions based on historical data. This will help you understand how your portfolio would perform during a crisis, aiding in a better understanding of your risk tolerance.
It is important to have proper preparation, including acquiring knowledge, because investing according to a plan rather than emotions is crucial for success.
Step 4. Define Your Investment Goal
Every investor has their own individual goals, which should be tailored to their life and financial situation. You might want to save for retirement, a child’s education, buying a house, or simply increase your wealth. Defining an investment goal is crucial because it allows you to choose the right investment strategy.
If you don’t have a specific goal but want to start investing, you can begin by defining your financial priorities. Consider what is most important to you: capital safety, wealth growth, or saving for the future. It is important to estimate the time you have available to choose the appropriate investment strategy.
Step 5. Determine Your Investment Philosophy
Your investment philosophy is the way you manage your portfolio. You can choose between passive, active, or hybrid investing, combining both approaches in different parts of your portfolio. Passive investing is simple and less costly, based on broad market indexes that can be purchased through ETFs or index funds. This style provides broad diversification and low costs.
On the other hand, active investing requires more knowledge and engagement. It’s worth calculating whether the time spent on active investing is a reasonable step.
⚠️ Note
To compare active and passive approaches, consider reading our article: Passive vs Active Investing: Which Strategy is Better for You?
Step 6. Develop an Investment Strategy
Having a clear investment plan is key to achieving success in the financial market. If you already know which philosophy you want to follow when investing, you should turn it into a concrete action plan.
For example, a passive investor might decide that 80% of their portfolio should consist of a global basket of stocks, with the rest in bonds. When implementing the strategy, you need to select the right instruments (e.g., ETFs) and determine how to manage them, such as through rebalancing, which involves periodically restoring the model weights in the portfolio.
Thoroughly developing a strategy is particularly important in challenging market situations, such as stock market crashes, as it helps investors act methodically. As we know, the worst advisor for an investor is strong, temporarily felt emotion.
Summary
Investing requires careful planning and understanding of your goals and risk profile. Let’s remember that we cannot control the market, and it’s better not to try. Instead, focus on what you can control—primarily your own behavior. To some extent, you also have influence over the costs and taxes incurred during investing—these are both the simplest and most reliable ways to improve investment results.
