The world of investing is becoming more and more accessible to just about everyone. However, it can sometimes still feel a bit daunting to allocate hundreds, or even thousands, of dollars from your paycheck to your investments. For some, investing hundreds of thousands of dollars may seem easy; however, for others, the idea of putting a few thousand into an investment account may be unimaginable. So, we wanted to answer the age-old question, “How much money do you need to invest in stocks or other securities?”
In this article, we’ll discuss what a good amount to invest in stocks is, how to effectively plan for an initial investment and fees you may encounter while investing in stocks, mutual funds or exchange-traded funds (ETFs).
What is the minimum dollar amount you should have before investing in stocks or other securities? This is a question some AAII members ask us and likely one that many others have, especially those who are new to investing.
Technically, you are only limited by the minimum amount required by a brokerage firm or mutual fund company to open an account. Online brokers generally don’t require a minimum to invest in stocks or other securities. You can research brokerage accounts before you decide which one is right for you. There are nearly 400 no-load mutual funds open to individual investors that have no minimum purchase requirements. These no-load mutual funds are offered by fund families including BlackRock, Fidelity, Goldman Sachs, Schwab and Vanguard.
Pragmatically, you should weigh the dollar amount you have available for an initial investment against the actual costs of creating a diversified portfolio and the time required to manage it. A rule of thumb is for individual investors to set aside at least 15% of their income to invest in future goals like retirement. If this is too much, start with a smaller amount and gradually increase it over time.
You may be wondering how much you need for an initial investment in stocks. Now that it has become the standard to offer no trading fees for individual stocks and some brokers allow you to buy fractional shares, there isn’t really a minimum to invest in stocks.
Since online brokerage accounts can be opened without having to meet a prespecified minimum initial investment dollar amount, you can start buying stocks with whatever leftover income you have. We encourage investors to start with what they are comfortable with losing, as the market can be volatile and unpredictable. Even though there is no minimum to invest in stocks—especially if your broker allows fractional share trading—it’s always wise to commit to building up your savings by regularly contributing to them. With zero-dollar commissions, you can use these regular deposits to dollar-cost average into your preferred stocks. Buying shares (or investing dollar amounts) over a period of time smooths out price fluctuations.
Regardless of whether or not your broker allows fractional share trading, you will want to work toward building a diversified portfolio. Studies suggest that a minimum of 15 to 20 securities is required to build a diversified portfolio and reduce the idiosyncratic (company-specific) risks of holding a single stock or small group of stocks. Buying fewer stocks—especially less than 10—increases the risk that a sharp decline in a single stock will significantly hurt your returns.
If you’re still puzzled by the question of “How much money do I need to invest in stocks?,” consider that the answer is dependent on your ability to consistently save and have enough money to justify the efforts of managing a portfolio.
Nearly all online brokers have stopped charging commissions on stocks or ETFs. Most also offer a selection of mutual funds on a no-transaction-fee basis, though the specific funds vary by broker.
Zero-dollar commissions do not mean trades are free. When you buy or sell a stock, you still will incur transaction costs and potentially taxes. Transaction costs include movement in the stock price caused by your order and the difference between the price your trade was executed at and the bid price (for buyers) or the ask price (for sellers). This is called the bid/ask spread. Capital gains taxes will be assessed if you sell a stock at profit in a taxable brokerage account.
An alternative to buying individual stocks is to invest in a mutual fund. A no-load mutual fund does not charge you any money for buying or selling your shares from an account held with the mutual fund family. Rather, it charges a flat expense ratio. The cost of mutual funds that are deemed “no-load” varies, but the median expense ratio for actively managed domestic large-cap funds is 0.89% of the fund’s net assets. This equates to an annual charge of $8.90 for every $1,000 invested. For index funds, the median expense ratio is a much lower 0.25%. This equates to an annual charge of $2.50 for every $1,000 invested.
A big advantage mutual funds give you is instant diversification. Rather than trying to identify enough stocks to build a diversified portfolio, you can get exposure to a professionally managed portfolio with a single purchase.
As we noted previously, there are many mutual funds that do not have a minimum initial investment requirement. Many others have relatively small minimum initial investment amounts. Pay attention to the overall cost of a mutual fund. The higher the expense ratio, the higher the return the mutual fund will have to realize to give you the same return of a fund with a lower expense ratio. We also suggest avoiding funds charging 12b-1 fees or front loads (a sales charge for buying the fund). Rear-end loads (a fee for selling the fund) should also be watched out for, though many disappear if the fund is held for a certain period of time.
Mutual funds are bought and sold at the end of day at their NAV. NAV is net asset value, or how much of the underlying assets each share of the fund represents.
Exchange-traded funds tend to have lower expense ratios than mutual funds. The cost of an ETF can be extremely low, with several charging expense ratios of less than 0.10%. This equates to less than $1 for every $1,000 invested. Put another way, the cost of an ETF can be very low.
As is the case with stocks, most online brokers do not charge commission on ETF trades. Like stocks, when you buy or sell an ETF, you will still encounter transaction costs like the aforementioned bid/ask spread, as well as potential capital gains taxes. Depending on the ETF, you may also end up paying a premium or selling at a discount relative to NAV. An ETF trades at a premium when its share price is above its NAV price, meaning its price is above the underlying net asset value each share represents. An ETF trades at a discount when its price is below the NAV. Buying at a premium or selling at a discount adds to the cost of an ETF.
Once you have chosen an online broker, determined a safe budget you’re willing to invest and listed out your investing goals, you’re ready to choose your first investment. Whether it is individual stocks, mutual funds or ETFs, you’ll be able to invest with confidence, even with a small budget.
At AAII, we stress that people start investing as early as possible with whatever they can spare. Putting aside a few dollars each paycheck toward an initial investment that fits your needs and preferences will help you fund your financial goals such as retirement, paying off a mortgage or saving for emergencies.
So, how much do you need to invest in stocks? Technically, there is no minimum—especially if your broker allows fractional share trading. In our Lifetime Strategy Guide, we suggest using mutual funds or ETFs until your portfolio has at least $15,000 to $20,000. This dollar amount not only allows you to more meaningfully diversify your portfolio but also allows you to allocate enough money to begin justifying the extra effort of managing a portfolio of individual stocks.
You can choose your budget, determine if a cost-effective plan such as ETFs is a good starting position or you can start utilizing AAII’s tools and resources like A+ Investor to plan for an initial investment today.
At AAII, we want our members to have the resources they need to make well-informed decisions about their investments. Here are a few great resources you can use to know what is a good amount to invest in stocks:
This article was originally published in the June 2011 AAII Journal. Click here for a PDF of the original article.