Investing in the stock market offers a great platform to individuals for earning great returns on their investment. However, there are also several risks associated with it. When trading in the stock market, you should try to minimize the risk of loss and maximize earning potential of your investment portfolio. This requires the know how of the following 3 basic stock trading rules that will allow you to smoothly ride the ups and downs of the market.
1. Diversify Your Stock Portfolio
The most basic stock trading rule is that you must never put all your eggs in one basket. In other words, you should never put all your money in one financial instrument. Instead, you must diversify your investment portfolio and invest in different instruments. Portfolio diversification is important to minimize risks that are inherent in the stock market. It will ensure that in case one stock or sector performs badly, you will be able to earn profit from another.
2. Know About Stock Beta
If you want to diversify your portfolio, you must know about stock beta that measures volatility of the stock. Knowing about volatility of a stock is important if you want to maximize risk-return potential of investment decisions. The more volatile a stock, the greater is its return potential. But the risk of loss is also high with highly volatile stocks. Stocks with beta greater than 1 are generally volatile in nature. This means that the stock prices experience greater ups and downs during changes in the index. For instance, a stock with a beta of 2 will experience 20% change in prices when the market index changes by 10%. In case the market goes up, the gains on stock will be about 20% higher than the average. However, when the market goes down, the losses will be 20% higher than the average. On the other hand, a stock with negative beta will move opposite to the stock market index. Including such stocks in the portfolio will allow you to offset the risks during adverse movements in the market. Ideally, your portfolio should be spread over stocks with different betas to maximize the risk/return potential.
3. Don't Invest Your Retirement Savings
The third basic stock investing rule is to avoid putting your retirement savings in stocks. The reason is that retirement savings will serve as your lifeline after retirement. That is why it's important that you do not expose this important asset to market risks. Trading should be done with capital that is not reserved for any important expenses. It should be the money that you are willing to risk in order to build your wealth.
In conclusion, you should remember that being successful the in stock market requires making wise investment decisions. You can achieve this aim by following the basic stock trading rules listed in this article. If you don't, you may end up losing all your investment amount in just a blink of an eye!