If you are not well-versed in the basics of the stock market, you are probably asking yourself, ‘What are stocks?’ ‘How do they work?’ and ‘How old do you have to be to buy stocks?’
Investing in stocks in one of the few time-tested ways to build wealth, providing you start early enough to reap the returns. The stock market has returned between 7% and 10% annually over the last 100 years, depending on where you get your data. If returns have been this consistent over this long a time frame, why aren’t more people invested in the market?
The answer boils down to one of three things: lack of capital, lack of education, or lack of risk appetite. Sure, stocks have great returns over the long-term, but the average person isn’t looking 50 years into the future.
In the short-term, stock prices can swing rapidly. Do you have the stomach to watch your money ride this seesaw? “Buy low, sell high” is an easy catch-phrase to learn, but much harder to execute in real life.
If you’re young, you have a huge advantage over most investors. Time is on your side and it’s a powerful ally. Having an investment horizon measured in decades makes it easier to survive market downturns.
Should teenagers be opening brokerage accounts?
State governments don’t think so – you need to be 18 to buy stocks in every state in the nation (and in most it’s 21!). However, you can still get started early if you have the time and know which accounts to open.
And have a parent willing to help with the paperwork.
Stock Market Basics
Stocks are shares in publicly traded companies. They represent a piece of ownership or a claim on a company’s earnings and assets. Whether you say stock, equity, or shares, it all means the same thing.
Some of the most popular stocks in the U.S. include Facebook (NASDAQ: FB), Apple (NASDAQ: AAPL), Amazon (NASDAQ: AMZN), Netflix (NASDAQ: NFLX), Google (NASDAQ: GOOGL), Microsoft (NASDAQ: MSFT), and Tesla (NASDAQ: TSLA).
When you buy shares of a company or you invest in its stock, you become a part-owner of that company. As you acquire more stock, your ownership stake in the company increases.
Stocks are one of most ideal ways for the average person to build wealth. Similarly, for publicly traded companies, stocks are the most ideal way to raise money to support their business operations. Privately-held companies normally “go public” by issuing stock.
The stock market is made up of exchanges, such as the Nasdaq and the New York Stock Exchange (NYSE). Stocks are listed on a specific exchange. These exchanges act as a market for buyers and sellers to trade those stocks. The exchange tracks the price and the supply and demand of each stock.
Owners of private companies choose to take their companies private in order to raise money and spread risk to the general investing public rather than keeping it all to themselves.
How old you have to be to buy stocks?
Of all the questions that a potential stock trader may have, finding out the legal stock trading age by state should be a top priority. There isn’t really a minimum age limit to buy or hold stocks. Even a minor can buy and own shares.
However, for most brokerage firms the minimum age that they will permit you to open an account to buy and own stocks is normally 18. In some states, the minimum legal age to buy stocks is 21.
These are the states that have an over-18-years minimum requirement for investing:
- Alabama – 19 years
- Nebraska – 19 years
- Delaware – 19 years
- Mississippi – 21 years
If you are under the age of 18, though, you will need to have your parents set up a custodial account for you. Although this account will legally be under the control of parents, the child owns the count, and parents can’t use the assets in the account for their own purposes.
Custodial accounts generally can’t be opened online using brokerage firms. Instead, parents must request an account form from their online broker and then submit it by mail.
Gains are normally taxed at the child’s tax rate. Once the child hits the age of majority, which of course vary depending on your state, the assets come under his or her control.
As a practical matter, however, there is no real mechanism that can prevent the kid from doing his or her own trading once the online account is in place.
Why there is an age requirement?
Well, the answer to that is simple: Stock trading is a actual contract and minors cannot sign contracts. A contract with a minor is void. Basically, kids are presumed not to know what they are doing.
So, a minor who signs a contract can choose whether to honor or void it.
Alternatives to Standard Brokerage Accounts
Options do exist to get around the 18-or-21 and up rule. Brokerages offer different accounts for minors that can be handled by parents or guardians until the proper age is reached. Here are few account choices to consider for underage investors.
- UTMA/UGMA Accounts – If you love government acronyms, you’ll love these accounts. UTMA stands for Uniform Transfer to Minors Act and UGMA stands for Uniform Gift to Minors Act, referring to the laws that made these accounts possible. Both accounts allow adults (usually parents) to transfer assets to minors without being taxed. UTMA accounts can be used for any type of asset, including property like real estate and cars. UGMA accounts can only hold financial securities like stocks and bonds. Once the designated minor comes of age, the account ownership transfers to them. Standard taxation rates will apply to any gains.
- 529 / Coverdell Plans – These accounts are college savings vehicles with tax breaks if used for qualified educational expenses. Like UTMA and UGMA accounts, an adult opens and funds the account for a beneficiary, usually a child. If you open a 529 or Coverdell, your withdrawals will be tax-free if the money is used for funding the college expenses of the beneficiary. Additionally, some tax deductions may be available for contributions, depending on which plan you open and which state sponsors it.
Steps to Making Your First Stock Purchase
- Acquire Enough Capital – Before trading any stocks, you need the cash to buy them. Most brokerages don’t require a minimum to open an account, but stocks can be expensive. You’ll need more than $2000 to buy a single Amazon share right now, so acquire an appropriate amount of capital before pursuing investment in stocks.
- Devise a Trading Plan – You can’t just dive in and buy CNBC’s hottest stock each day; you need a plan. What are your goals for trading stocks? What kind of companies do you want to invest in? Before funding your brokerage account, devise a few rules to keep you on track of your goals. And put your plan down on paper – you’ll need to consult it later.
- Choose a Suitable Broker – Investors have more choices for brokers than ever before. Mobile-only brokers like Robinhood and Webull offer zero commissions and sleek smartphone apps for trading. More traditional brokers like TD Ameritrade and Charles Schwab are also now commission-free and provide access to educational materials and derivatives like options and futures. Pick a broker that suits your trading style. If you want to use complex trading signals or automated systems, a simple broker like Robinhood won’t be your best bet.
- Identify Stocks that Fit Your Criteria – Remember your trading plan? Once you’ve funded your brokerage account, it’s time to consult your plan. Use your predetermined rules and criteria to find stocks that fit your goals. Use fundamentals like earnings and sales growth for long-term investments and technical signals like moving averages and support / resistance levels for short-term trading.
- Execute Your Transaction – Once you’ve found the stocks you want to buy, you need to execute your trade. But there’s more to buying a stock than just pointing and clicking. You can buy shares right away at the market price with a Market Order or wait until a certain price target is reached with a Limit Order. If you think one of your targeted stocks is overvalued and want to get in at a lower price, use a Limit Order to get a precise entry point.
Risks Associated with Investing in Stocks
Investing in stocks obviously comes with risk. Your investments can close value, which means you lose money. But risk with stocks is a little more in-depth. Here are the two main types of risk investors need to worry about:
- Systemic Risk – When your investments are too heavily concentrated in one particular industry, you face the same risks as that industry. For example, if you’re invested in energy stocks and the price of oil declines sharply, your investments will take a hit. Investors can minimize these risks through diversification, ie. buying stocks in different industries or simply buying index funds. Systemic risk is specific to certain industries or trades, but not the broader market overall.
- Systematic Risk – Sometimes known as market risk, systematic risk cannot be diversified away. This type of risk is inherent to financial markets and cannot be removed without greatly reducing the possibility of profits. Systematic risk is unavoidable and investors must consider how much of a loss they’re willing to withstand if a market crash occurs. Systematic risk didn’t spare any specific industry or class of stocks during the financial crisis of 2008 or the flash crash of 2011.
Opening a brokerage account is limited to adults at least 18 to 21 years of age, depending on the state you live in. However, young people do have alternatives if they’re parents are willing to get involved.
Custodial vehicles like UTMA or UGMA accounts allow parents to fund investments for their children or other beneficiaries. Or you could open a 529 or Coverdell plan for education savings.
But until you’re of legal age, investing in stocks isn’t permitted. Your parent or legal guardian might let you direct the investments inside a custodial account once it’s funded, but the account will remain in your guardian’s name.
If you’re under 18 and want to practice trading, many great simulators and paper trading programs exist. By getting a headstart on your trading education, you’ll be ready to hit the ground running once you’re old enough to trade.