So should you?

What are the advantages and disadvantages of online trading? How does one go about getting an account? How does one chose what to buy and sell . . . and when to buy and sell? When is it appropriate to manage your own investment portfolio and when is it best to leave it to the professionals?

This is the first of a series of articles on Investing Online 101. Here’s what you need to know before your first share is bought.

Advantages of Online Trading:

Flexibility: Online trading is nearly instantaneous, providing you the freedom to trade at your leisure from anywhere, anytime. No need to make a call, travel to your broker’s office, or even get dressed. This flexibility means you have the freedom of watching the market and making quick trades if needed. You don’t have to wait on anyone other than yourself.

Expenses: For the most part, transaction costs are usually lower for online trades than traditional brokerage firms. E-Trade offers trades starting at $6.99, Scottrade at $7, and TD Ameritrade at $10. One reason for this is because overhead is obviously lower for online firms. Another reason for this however, leads us to one of the disadvantages of online trading which is no advice.

Disadvantages of Online Trading:

No Advice: Buyer beware! Unlike traditional brokerage firms that may offer investment advice specifically for your situation, you won’t find that online. Therefore, it might pay for inexperienced investors to meet with an investment advisor while still new to the game. You also won’t have guidance as to what price you should buy and sell with an online firm.

Expenses: While these can be an advantage because of low cost, many investors become “trading happy” and begin to make excessive daily trades which can not only lead to higher transaction costs, but possibly lower returns as well.

First Thing’s First:

While anyone can open an online trading account, it is much more difficult to understand the full implications of managing your own portfolio. So before you click away to day trading, become familiar with online investment research and screening tools. Some popular investment education sites include www.investingonline.org, www.fool.com, www.investopedia.com, www.kiplinger.com, and www.finance.yahoo.com. These websites can serve as a resource of how to buy and sell online as well as provide current market and economic updates and individual stock information. Become familiar with these tools before opening an online investment account.

Practice before you Play:

While it might sound frustrating, if you are a beginning investor I highly suggest you practice before you play. Take a few days or weeks (whatever you feel comfortable with) and make pretend stock selections and transactions. Keep a spreadsheet of fantasy stocks you buy and sell and at what price. Include transaction costs to make the illustration as accurate as possible. You can even use Monopoly money as you practice. The idea here is to begin to understand your investment style: what you are comfortable with you and what you aren’t. At the end of your fantasy training ask yourself honestly if you would feel comfortable managing your own portfolio of money.In the next article we will discuss stock selection. How do you know when a stock pick is a good one? We will also discuss step by step instructions on placing an online trade. Until then, do your homework and the money will follow!

These are a few of the questions that will be spinning around in your head as you begin taking your first few steps. I always look at these matters and explain to my clients its all about balance. What is important is finding a way of saving that gives you flexibility, while being relatively simple to get started. Before we can discuss diversification we will need to determine what and how we will be funding. You will first want to take a long hard look at the benefits your employer is providing. This typically will be a great beginning to exploring your options.

Benefits Puzzle–What’s a 401(k)?
When you started your new job, the human resources person gave you a packet of information that contained everything from health insurance, tax withholding, life insurance coverage . . . all of the benefits you can take advantage of through your employer. Somewhere in the packet was information on the Company Retirement Plan called a 401(k), if your employer is offering one (most medium to large size companies will have one). As you begin by thinking . . . ’what the heck is this 401(k) business and why do I care?’ A 401(k) plan is an employer sponsored retirement plan that allows you to save money for retirement and depending on the type of 401(k) the money you save is PRE-TAX (for our purposes I will assume your employer is offering a traditional 401(k)). This means you are not taxed on the money as you are putting it away for the future. Of course in the future when you withdraw those dollars you will have to pay taxes. This then depends on your employer, but you may have to wait for a period of time before you can enroll, others allow you to start saving money right away. Regardless, the money you defer from your checks is always yours for the future.

Now that you have done your budget (see article on Stash Your Cash) and determined you can save 10% of your income (for 2009 the maximum for individuals under age 50 is $16,500 of income deferral into the 401(k)) so what is the best place for doing this? Again, this is where a little bit of balance helps. If your employer is matching your contributions $0.50 on every dollar up to 5% it is an absolute no brainer to contribute a minimum of 5% to the 401(k) plan. So you are getting the equivalent of 7.5% savings by deferring only 5%. Many employers will have a period of time you have to work there before these ‘matching’ dollars are yours; this is referred to as the vesting period and varies. Never . . . ever . . . leave free money on the table.

Roth IRA
So where do I put the other 5% of my earned income? Now, your approach to this becomes a little more subjective, but if you follow my example the next applies nicely. If you are tax savvy, or have a friend who is a CPA and you realize that by adding another 1% into the 401(k) it drops you down a tax bracket, then by all means do so. However, if this either doesn’t matter or is not the case I would typically recommend setting up a Roth IRA. IRA stands for Individual Retirement Account. Look at it from this perspective; 401(k)’s, IRA’s, Roth IRA’s and many of the other types of accounts you can fund are SIMPLY CONTAINERS . . . I view them like martini glasses, if you choose to put a cosmo in them that is fine, if you choose to put Grey Goose in them that is fine as well, so just remember when I refer to the TYPE of account remember it’s the container . . . let’s not get into which type of drink your palate prefers.

Tax-free Savings for Your Future
When we discuss asset allocation we can address that matter in more depth in my next article. Ok, so maybe it’s time to start investing additional monies into your Roth IRA so you have a nice balanced approach. What are the rules and why do I want to do this? Here is how this works; you can ONLY contribute up to $5,000 per year as long as you are under age 50 , and the money grows and compounds tax deferred. At qualified retirement age (currently 59 1/2) and as long as you have held the monies in the account for 5 years your withdrawals are INCOME TAX FREE! So let’s say over 20 years you put $5,000 per year into an account and it’s now worth $200,000 and you are now at an age where you can take withdrawals, you don’t have to PAY ANY TAXES. This is clearly a big deal and should be given great consideration.

There are a few catches that go along with this. The biggest concern is if you are doing well financially. If you earn over $110,000 per year as a single tax filer you are EXEMPT from making contributions to a Roth IRA. However there are other rules that apply here that go beyond the scope of our discussion (I am available via appointment for consultations on these matters). If you are in this arena, there are special considerations that apply and I am more than glad to do an individual consultation to explain some tactics on reducing your income so you can potentially drop to the income range which qualifies for a Roth IRA. By combining these two retirement savings account; The 401(k) Plan and the Roth IRA you can have a great balance in your savings and be well on your way to creating a foundation and planning for your financial future.

In my next series we will take a look at portfolio diversification, which will address the question of what to put in each of these accounts now that you are funding them. We will look to answer your questions on risk tolerance, time frame for certain investments, and asset allocation tactics that will put you in the driver’s seat as you are building your future savings.

The total amount that can be contributed varies depending on income, age, and contributions to other accounts
Special ‘catch-up’ provisions apply to individuals age 50 and older. Amounts could be more or less depending on age and income

This is purely for illustration only and is not indication of any performance, nor a performance guarantee. Investments can and do lose value and previous performance does not guarantee future results.

There are many alternative options and considerations for high income households. This is an area which requires analysis and careful planning to make sure guidelines are followed. Please contact me for a personal consultation.

Kenneth J. Wolfe, CRPS®
Financial Advisor
Raymond James Financial Services, Inc
Member FINRA/SIPC
500 Elm Grove Rd. Suite 108
Elm Grove, WI 53122
262-782-5900 X012

Online trading is buyer beware! Since you are the one deciding what investments to buy and sell and when to buy and sell them, ultimately the reward or burden falls back on your own checkbook. That’s why it’s very important to start small and get comfortable in the game before you invest serious money. By “serious money” I mean anything other than an amount you can afford to lose (i.e., can you still afford to eat three meals a day if you make a bad stock selection as you’re learning?)

Your Own Bright Idea

It all starts with your own bright idea. Stock selection, for most, is based on personal preferences and decisions. While there are key statistics to research in a stock (as we will discuss shortly) the initial process begins with your own research and thoughts.

Think about where you like to shop, what you like to buy, what you think is the “next big thing.” Pay attention to the world . . . are you noticing fewer people in line at Starbucks for coffee and more at Dunkin Doughnuts? Do you see a fashion trend in precious metals from gold to silver to platinum? What are the noises, feelings and thoughts of the people all around you? Consumer spending accounts for 2/3 of our country’s economy, so what people are buying (or not buying) is important.

For example, a few years ago I began to notice how often I found myself shopping at Target. I bought everything there. Clothes, shoes, greeting cards, food, medicine, electronics. It truly became my one stop shop. My shopping experience began to change as I focused more on my surroundings and the company from the ground up.

I noticed what a wide variety of products they had in various price ranges. I noticed there were customers of all ages, ethnicities and social classes. I could never find a parking spot and the employees were friendly and knowledgeable. After more research, I bought stock in this company.

That’s an example of how the idea can start from within. Then we move on to the more fundamental research components of stock selection.

Research your way

The good news is there is a plethora of information online to research stocks of various companies. Some good sites include finance.yahoo.com and bloomberg.com. You can also get on the company’s website to read press releases and earnings reports.

Understanding stock-world vocab:

Price: This is the price it will cost to purchase one share of company stock. A share of stock is literally an ownership interest in the company.

Price Range: This can be shown for the day as well as 52 weeks. The high and low will be shown.

Change: The difference in price from the previous day’s closing price.

Bid: What a buyer is willing to pay for one share.

Ask: What a seller is willing to sell one share for.

EPS: This is essentially how much of the company’s profit can be allocated to each individual share of stock outstanding.

P/E: This is the Price to Earnings ratio and is the price of the stock divided by EPS (see above). This number can be an indicator of whether the stock is expensive or cheap.

Dividend Yield: This ratio shows how much of a dividend the company distributes to shareholders relative to the stock price.

You can also view company news, message boards, insider transactions (whether key officers are buying or dumping their own shares) and various historic price charts. Learning which statistics are important and beneficial to your research process takes time and trial.

In the next article, we will walk through how to purchase a stock online and when a stock might be a good “sale candidate.”