Alton Hill is a Cofounder at TradingSim. He has a passion to help people and found that one of his ways of doing so, is through the world of Day Trading. Alton’s skillset is in Product Development and Design Thinking which he uses to write and improve the overall experience for TradingSim.
Wondering how much to invest in stocks? When you read a number of articles on the web, you will notice the answers you find are somewhat convoluted.
Logically the answers center on your long-term and short-term goals. In addition, the answer will depend on your trading style.
Well in this article, I am going to take a more hard lined approach for how much you should invest in stocks. We will discuss five areas of focus which will help support the figures I will be listing in the article.
I am not including long-term investing in this article, as that’s a totally different methodology and Tradingsim is for active traders. If you are looking for more resources on retirement accounts and or long-term investing strategies, feel free to visit any of the following sites:
One of the first topics you need to address is whether you will trade while carrying any credit card debt. Debt is a tricky thing and we all respond to it differently.
By not carrying heavy debts, this will support my claim later in this article for the amount of funds required for trading. If you are carrying big debts, you will likely have a tough time coming up with the cash required for trading.
When it comes to investing, and I can only speak from personal experience, you want to clear all of your credit card debt before investing in the market.
There will be some of you that will say this is not a requirement and that you can use your trading profits to clear off the debts.
This is true and would represent a best-case scenario. However, when trading we have to assume the worst case and to this point, it’s better to build our investment portfolio on solid rock.
Imagine, if you are able to grow your trading account substantially, but are still carrying credit card debt. Then imagine if you were to lose the profits, you have made without ever paying off the debt. Think through the emotional pain you will have to reconcile with by not eliminating the debt when you had a chance.
The other key point is you can think clearly, when you do not have the debt hanging over your head. You will be able to focus on your trades in isolation and not have the burden of thinking of other financial obligations as you are making your investment decisions.
In summary, regardless if you are day trading or swing trading, you will want to pay off your credit card debt before investing money in stocks. If I am unable to convince you otherwise, then I would ask as you make a profit, take every penny out and place it on your debts until they are completely paid off.
Think in 5 Year Windows
Trading has an amazing talent of removing the concept of time from your thinking. What I mean by this is no matter your age, you will feel that everything needs to happen now.
You need to make a million dollars in a matter of a few months. One thing I find troubling when I speak to traders is while they may have a trading plan, very few have trading goals.
I have found the most successful people in the world are those that are able to set small obtainable goals, which they work passionately to achieve.
According to famed author Napoleon Hill, “A goal is a dream with a deadline.”
Why 5 years? Simply put, one of the most comprehensive studies on success rates for small businesses stated that most fail within one to two years. This failure rate drops to 50% as you reach the 5-year mark. To see further details on this report, please read the case study as published by the Bureau of Labor Statistics.
Trading should be no different. If you don’t already do so, you need to start thinking of your trading activities like any other form of business.
By applying a longer-term view to your trading activities, you will realize that you don’t have to take every trade. You will also realize that it’s not so important to sit in a losing trade hoping for the big payout.
Once you recognize time as a friend and not a foe, you can use time to your advantage and learn to think of your returns in the out years and not trade by trade.
How Much to Invest
Now that we have laid down a few guiding principles (paying off debt and a 5-year window) before we start talking about money, the answer is simple. You don’t have to invest much in the stock market. The beauty of the stock market is that while it costs money to play, you do not need an exorbitant amount of money to get started.
For day traders, assuming you are not looking to day trade for a living tomorrow, you should have around $50,000 dollars to begin investing. This will afford you the ability to cover your trading costs and taxes, but still be able to turn a profit.
For swing traders, $10,000 to $20,000 dollars will do just fine for beginners.
The reason the day trading starting figure is a bit higher is due to the minimum cash requirement of $25,000 required for day trading. You need to give yourself a little breathing room in order to be able to grow the account. The last thing you want to do is fall below the cash requirement and you are no longer able to day trade.
The Power of Compound Returns
So, why invest so little in the stock market? Shouldn’t you be investing more, so you can climb the ladder to riches quicker?
Remember that investing is relative. If you start out with $10,000 to $20,000 dollars swing trading but trade extremely well and are able to make consistent profits, then your account can grow exponentially over the years. When I say years, I’m not talking about 20 years; I’m still working within the 5-year time line.
Not a believer, check out what Timothy Sykes has been able to do day trading in less than a decade, starting out with less than $13,000 dollars.
Therefore, if you have tons of money, don’t feel the need to invest it all in the market. If you know what you are doing and have at least 5 years to spare, then you should be able to make a killing in the market over that time frame.
Still not a believer? If you are able to start out with $50,000 dollars and just make 5% a month, in five years could you tell me how much money you would have in the account?
Well, at the end of 5 years you will have a paltry sum of $933,959 dollars. Clearly, I am being facetious. Now, this figure does not include taxes and the need to take out funds for living or as a bonus to yourself, but you get the point. If you buckle down and go for consistency over big gains, time can help you hit your lofty targets.
Only Play with House Money
I’m assuming the money you are investing is money that you will be trading. Meaning you are not looking to make monthly deposits to a mutual fund and hope for the best with someone else making your trading decisions.
Assuming you have not been trained in investing and are not doing this full-time, you need to be cautious about how much you invest. There will be a bit of growing pains along the way. This is why I strongly suggest you continue your retirement planning through your 401k as your plan A. This way if plan B of investing on your own falls through, you still have funds for retirement.
The standard 10% of your income going in the coffer each year for plan A will be enough, assuming you have 40 or 30 years of work ahead of you.
However, for plan B, you don’t need to invest much as I’ve stated earlier in this article. The key point is to make money consistently and there really isn’t a need to throw the farm at the market. Therefore, only invest a small amount of funds – $10k-$20k for swing trading and $50k for day trading, because if you are any good, the money will pour into your pockets.
Warren Buffett Quote
Start small, with a clear trading plan that will produce realistic goals over the long haul. This way you can grow your account without putting your nest egg and family at risk by constantly throwing money at the market.
Lastly, starting small will force you to focus on improving your trading skills and having patience when trading the markets.