The different ways to invest in the stock market

2. Decide how much you will invest in stocks

First, let's talk about the money you shouldn't invest in stocks. The stock market is no place for money that you might need within the next five years, at a minimum.

While the stock market will almost certainly rise over the long run, there's simply too much uncertainty in stock prices in the short term -- in fact, a drop of 20% in any given year isn’t unusual. In 2020, during the COVID-19 pandemic, the market plunged by more than 40% and rebounded to an all-time high within a few months.

• Your emergency fund
• Money you'll need to make your child's next tuition payment
• Next year's vacation fund
• Money you're socking away for a down payment, even if you will not be prepared to buy a home for several years

Asset allocation

Now let's talk about what to do with your investable money -- that is, the money you won't likely need within the next five years. This is a concept known as asset allocation, and a few factors come into play here. Your age is a major consideration, and so are your particular risk tolerance and investment objectives. Let's start with your age. The general idea is that as you get older, stocks gradually become a less desirable place to keep your money. If you're young, you have decades ahead of you to ride out any ups and downs in the market, but this isn't the case if you're retired and reliant on your investment income.

Here's a quick rule of thumb that can help you establish a ballpark asset allocation. Take your age and subtract it from 110. This is the approximate percentage of your investable money that should be in stocks (this includes mutual funds and ETFs that are stock based). The remainder should be in fixed-income investments like bonds or high-yield CDs. You can then adjust this ratio up or down depending on your particular risk tolerance. For example, let's say that you are 40 years old. This rule suggests that 70% of your investable money should be in stocks, with the other 30% in fixed income. If you're more of a risk taker or are planning to work past a typical retirement age, you may want to shift this ratio in favor of stocks. On the other hand, if you don't like big fluctuations in your portfolio, you might want to modify it in the other direction.

3. Open an investment account

All of the advice about investing in stocks for beginners doesn't do you much good if you don't have any way to actually buy stocks. To do this, you'll need a specialized type of account called a brokerage account. These accounts are offered by companies such as TD Ameritrade, E*Trade, Charles Schwab, and many others. And opening a brokerage account is typically a quick and painless process that takes only minutes. You can easily fund your brokerage account via EFT transfer, by mailing a check, or by wiring money. Opening a brokerage account is generally easy, but you should consider a few things before choosing a particular broker:

Type of account

First, determine the type of brokerage account you need. For most people who are just trying to learn stock market investing, this means choosing between a standard brokerage account and an individual retirement account (IRA). Both account types will allow you to buy stocks, mutual funds, and ETFs. The main considerations here are why you're investing in stocks and how easily you want to be able to access your money. If you want easy access to your money, are just investing for a rainy day, or want to invest more than the annual IRA contribution limit, you'll probably want a standard brokerage account. On the other hand, if your goal is to build up a retirement nest egg, an IRA is a great way to go. These accounts come in two main varieties -- traditional and Roth IRAs -- and there are some specialized types of IRAs for self-employed individuals and small business owners, including the SEP IRA and SIMPLE IRA. IRAs are very tax-advantaged places to buy stocks, but the downside is that it can be difficult to withdraw your money until you get older.

Compare costs and features

The majority of online stock brokers have eliminated trading commissions, so most (but not all) are on a level playing field as far as costs are concerned. However, there are several other big differences. For example, some brokers offer customers a variety of educational tools, access to investment research, and other features that are especially useful for newer investors. Others offer the ability to trade on foreign stock exchanges. And some have physical branch networks, which can be nice if you want face-to-face investment guidance. There's also the user-friendliness and functionality of the broker's trading platform. I've used quite a few of them and can tell you firsthand that some are far more "clunky" than others. Many will let you try a demo version before committing any money, and if that's the case, I highly recommend it.

4. Choose your stocks

Now that we've answered the question of how you buy stock, if you're looking for some great beginner-friendly investment ideas, here are five great stocks to help get you started. Of course, in just a few paragraphs we can't go over everything you should consider when selecting and analyzing stocks, but here are the important concepts to master before you get started:

• Diversify your portfolio.
• Invest only in businesses you understand.
• Avoid high-volatility stocks until you get the hang of investing.
• I'm a busy professional and don't have the time to learn how to analyze stocks.
• Always avoid penny stocks.

It's a good idea to learn the concept of diversification, meaning that you should have a variety of different types of companies in your portfolio. However, I'd caution against too much diversification. Stick with businesses you understand -- and if it turns out that you're good at (or comfortable with) evaluating a particular type of stock, there's nothing wrong with one industry making up a relatively large segment of your portfolio.

Buying flashy high-growth stocks may seem like a great way to build wealth (and it certainly can be), but I'd caution you to hold off on these until you're a little more experienced. It's wiser to create a "base" to your portfolio with rock-solid, established businesses.

If you want to invest in individual stocks, you should familiarize yourself with some of the basic ways to evaluate them. Our guide to value investing is a great place to begin.

5. Continue investing

Here's one of the biggest secrets of investing, courtesy of the Oracle of Omaha himself, Warren Buffett. You do not need to do extraordinary things to get extraordinary results. (Note: Warren Buffett is not only the most successful long-term i nvestor of all time, but also one of the best sources of wisdom for your investment strategy.)

The most surefire way to make money in the stock market is to buy shares of great businesses at reasonable prices and hold on to the shares for as long as the businesses remain great (or until you need the money). If you do this, you'll experience some volatility along the way, but over time you'll produce excellent investment returns.