Dear Dr. Don,
I would like to start trading in the stock market, but I wonder if it is right for me and my current situation. While I have a 401(k), I would like to try buying some individual stocks. Assuming that is the right way for me to go, how do I choose which brokerage firm to use? What do you recommend?
— Ray Returns
I think there’s room in some individual portfolios for some speculative investments, which is how I would classify a trading account for an individual retail investor. Such stock trading shouldn’t represent a major portion of your net worth. A good starting point would be no more than 5 percent to 10 percent of your investable assets, and that should not include the equity in your home.
There’s a difference between trading and investing in the stock market. A trader has a shorter time horizon than the investor. The trader looks for short-term profits while the investor wants long-term gains.
What trading discipline are you planning to follow? Are you going to base your trading decisions on technical analysis, which uses past price movements and trading volumes to predict future price movement? Or are you going to trade while looking at the stock’s economic fundamentals? I’d say a majority of traders base their trading decisions on technical analysis.
Consider the adage, “Never confuse brilliance with a bull market.” What’s going to give you your edge in trading? Do you have particular insights into stocks or sectors of the market? I’m concerned that you are hoping a rising tide will lift all boats. The “lift all boats” school isn’t for traders as much as it is for investors.
If you’re a do-it-yourselfer and don’t need a stockbroker to provide investment advice, then your biggest concerns involve trading execution and commissions. If you plan to trade intraday in your account, then you may be classified as a “pattern day trader.” Such traders must have at least $25,000 in their accounts and can only trade in margin accounts. Interview a few firms about their commissions, execution, and trading accounts. Then pick one. Bankrate.com provides a tool that will help you compare online brokerages.
If you decide later that your selection is not a good fit, it won’t be hard to switch firms.
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