What comes to your mind when you think of the word investing? For most people, it goes something like this – you put money into some funds, and it grows over time, and you get rich. Well, technically it is true, but most often it is not as simple as that. You need to understand certain investment strategies if you wish to do it the right way.
An investment strategy is a method of thinking that influences the investments you choose for your portfolio. The greatest tactics should help you achieve your financial objectives and develop your wealth while maintaining a risk threshold that allows you to sleep at night.
The investment strategies you adopt may have an impact on anything from the types of assets you have to how you acquire and sell them.
In this article, let’s explore some of the common investing strategies you can use to maximize your returns.
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1. Value-based Investing
This is the strategy used by billionaire investor Warren Buffet. Since then, it has been used by people all over the world, and it has made people wealthy beyond their dreams. In concept, value investing works like this – you find a stock you believe to be undervalued, invest money in it at a discounted price and watch it grow over time.
Did you know that Elon Musk’s stint in Tesla started with his investment of just $6.5 million? This made him the chairman of the company and its largest stakeholder. Today, it is worth over $1 Trillion. The point here is to invest in companies that you believe will take off and reach their full potential over time. History is full of examples like this, and you can find these stocks even in today’s market.
True value investors, on the other hand, don’t need anybody to persuade them to stay in the game for the long haul because this approach is based on the notion that one should purchase companies rather than stocks. In other words, investors need to look at the long-term picture, not just the short-term results. Warren Buffet is frequently referred to be the archetypal value investor. For months or years at a time he does his homework. It’s only when he’s ready to commit that he goes all in.
Related Article: Value Based Investing: A Beginner’s Guide
Pros of value-based investing:
- You get to buy a stock for less than what it is intrinsically worth.
- Ideal for defensive investors since it provides protection against losing money and the ability to cash in once the market realizes its potential.
- With some research and hard work, anyone can be successful using value investing.
Cons of value-based investing:
- There is no guarantee that the market will realize the actual value of a stock and its price will go up.
- It takes a lot of patience since it could take the market a long time to reprise the value of the stock.
- It also takes a lot of hard work. You need to read books, conduct research, and compare dozens of companies before you could find one stock of true value.
2. Growth Investing
This is one of those investment strategies that focus on immediate growth over long-term potential. These are companies that are currently doing well and have a huge potential to grow. When you are on the look for growth companies, look for companies that are reinvesting their profits in expansion, new workers, equipment, etc.
One of the main signs of a growth company is that it is currently profitable. Hence, they are more expensive than value stocks. Investors looking for the “next big thing” typically search for growth stocks.
Besides looking at the present state of the company, you must also consider its growth potential in the industry it is operating in. For instance, an AI company that automates coding could be a huge thing in the future. However, the same cannot be said for a paper company as we move towards an increasingly paperless environment. You need to check out the company’s profitability as well as its future potential before assuming it is a growth stock.
Since growth companies typically reinvest almost all their profits in growth and expansion, you cannot expect any dividends from them. So, this is not an investment strategy ideal for income investors who look for a steady income in the form of dividend pay-outs.
Pros of growth investing:
- Huge potential for return on investment as the company is in growth mode.
- Less risky as the company is already profitable in the market.
- If you make the right pick, you can witness long-term dominance in your stock performance.
Cons of growth investing:
- Stock prices of growth companies are typically higher than other stocks.
- There is no guarantee that a company’s growth plans will materialize. So, you may not witness the huge growth at all.
- Choosing growth stock requires a lot of research and patience.
3. Index Investing
This is one of the safest investment strategies you might ever come across. It could also be considered a passive investment strategy that provides you with steady returns over time. Rather than researching for hours and picking stocks to outperform the market (most people won’t outperform the market statistically), you can invest in a benchmark index that reflects the market.
For instance, S&P 500 is an index and so is Nasdaq. When you are investing in an index, your investment will mimic the market and provide you with appropriate returns. Just to give you an idea, the average annual return of the S&P 500 index is 10.67% from 1957 to 2021. In other words, a million-dollar investment in the S&P 500 index will fetch you a return of $100,000 in one year (potentially).
So, index investing is ideal for passive investors who are not willing to spend hours on research or pay exuberant fees in active fund management. This is also a great way to diversify your risks. If history is any indicator, the indices have put up negative growth only on rare occasions. So, this is a great choice for investors who are not willing to take any risks.
Pros of index investing:
- Consistent returns with low risks.
- Eliminates the bias involved in stock selection and potential uncertainties.
- Low fund management fees and expense ratios compared to other stocks.
- Ideal for investors who wish to gain returns without any risk.
Cons of index investing
- No possibility of market-beating returns.
- You may have to hold on to investments even during tough times in the market.
- Negative performance from one giant company in the index might affect the whole index.
4. Momentum Investing
All investment strategies focus on gaining more returns, and momentum investing is no exception. Here, traders focus on riding the upward or downward trend in a stock’s price. This investing strategy sticks to the idea that a recent winner will stay a winner for a while and a recent loser will stay a loser for a while. During this narrow margin of time, momentum investors look forward to riding the wave on capitalizing on all possible gains.
Although this strategy is not entirely foolproof, it works beneficially for many investors. Conventional wisdom dictates that a recent stock winner will get even higher in the coming days. Most experts estimate that the “momentum” period may range anywhere from 3 months to 12 months. Some stocks might keep going up (or down) consistently during even for months.
If you want to make the most of this strategy, you need to follow the price trends of various stocks over a period of one week to four weeks. The key here is to properly time your entry and exit in the market.
Pros of momentum investing:
- Possibility of higher returns than the market average.
- You can use stop loss or other risk mitigation techniques to minimize your losses if things go south.
- If time properly, this could be one of the most profitable investment strategies you may ever witnessed.
Cons of momentum investing:
- There is a high degree of volatility here compared to other strategies.
- There is a possibility of high losses if you don’t time your entry and exit correctly.
- The downturn could be unpredictable in some instance. A negative news about a company may lead to panic selling, and this will sink down your stock’s price at an unexpected time.
5. Income Investing
There are two ways to gain from stock market investments. One is through capital gains when prices go up, and the other is through dividend payments offered on stock ownership. Income investing is a strategy that focuses on the second. You could still enjoy capital gains when the prices go up, but the dividends will pay you consistent income passively.
AT&T is one of the popular examples of income investing. With a dividend yield of about 8.5%, it is highly favored by income investors. Dividend payment is often offered by companies that are already giants in their respective industries. Companies in their growth phase cannot afford to pay any dividends to their investors.
If you want to earn a passive income with your hard-earned money, this is one of the investment strategies you must consider. Regular stocks are not the only way to income investing. You can even consider REITs (real estate investment trusts), which are real estate funds similar to owning real estate property.
Pros of income investing:
- The is extremely low compared to other investment strategies as you are investing in established companies with a strong financial history.
- The cash payments obtained in the form of dividends can be used for further investments or just to support your lifestyle.
- These stocks typically belong to essential commodities like oil, real estate, and utilities. So, investors won’t feel any pain during a typical stock market crash.
Cons of income investing:
- There risks are low in these stocks. However, that doesn’t mean there are no risks at all. Even these stocks can fall in the market.
- Dividend payment is completely subject to the company’s discretion. A company can even cut the dividend to zero if there is a shortage of cashflow.
- Since these companies have already matured in the industry, you are not likely to witness huge capital gains when holding them.
6. Dollar-Cost Averaging
This strategy is not associated with stock picking. Rather, it concerns with making periodic investments in the market to average the risk. The payments you make here will average out the buying points and mitigate the risk to a great extent.
Let’s look at an example to help you understand better. Let’s say you can invest $1,000 a month in buying stocks. You do it regularly every month without fail irrespective of the stock prices or market performance. The investments you make will spread across over a period of time and at different price points.
Here, you are mitigating your risk by not dumping all your money at the same time. Your risk gets spread across your investment timeline. Your overall investment value is within a certain limit and the return potential is solid when you use this strategy.
Pros of dollar-cost averaging:
- You can avoid the risks of volatility in the market with this strategy.
- You can use a mix of all the above-mentioned investment strategies while using dollar cost averaging.
- Ideal for low-income earners who are not in a position to invest a huge amount.
Cons of dollar-cost averaging:
- You may often miss out on buying a stock at its lowest price.
- The returns will be moderate compared to other investing strategies like momentum investing.
- This strategy is not a solution for all stock market risks. You still need to do your research and pick the right stocks if you wish to avoid risks.
Get Started with Investing
While there are plenty of investing strategies in the market, the top six we listed here is pretty much all you need to get started with your investment journey. No matter what investment strategy you choose, don’t forget to do your research, and try your best to identify the best stocks that can generate solid returns.
You may go with a traditional investment broker to do your investing, or you can take advantage of technology and opt for a Robo-advisor. This helps you automate your investments based on the rules you set as per your risk profile. Robo advisors have managed to deliver solid returns with minimal effort required in traditional stock trading.
You can use software like Titan to automate your investments and kickstart your investment journey. Titan was awarded the number one Robo advisor in 2020.
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Investment research is often a taxing process. Seasoned investors spend hours and hours reading and researching before picking the right stocks. However, this is not something that comes easy to ordinary people who must manage multiple tasks alongside their investments.
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