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Investing allows people to grow their money. The objective is to purchase assets or investments that the investor can sell at a higher price in the future to yield a profit. Some examples of investments are stocks, bonds, mutual funds, and annuities. Investors can purchase these vehicles through investment accounts such as IRAs, 401(k)s, or brokerage accounts.
Whether an investor wants to be more hands-on or take a passive approach, there are numerous ways to start investing. Since investors want to grow their money as much as possible, it’s wise to get started as soon as possible.
For investors who want to learn everything there is to learn about the market and want complete control over their investments, active investing might be worth considering. Investors can open brokerage accounts and then select the stocks, bonds, and ETFs they want to place in the account.
Investors who want something a little more basic and want to take hands-off may want to start with an automated investing account. Automated investing accounts still allow investors to learn along the way. This passive investing strategy allows investors to build a diversified portfolio based on their goals and objectives.
Whether an investor selects an active or passive strategy, it’s important to remember that every investment strategy comes with some risk. With this in mind, investors must make careful, make informed selections, and diversify their portfolios to hedge the odds in their favor.
New to investing? Let’s start with the basics.
Stocks represent ownership in a corporation. Each share of stock represents a small but equal share in the company. The stocks you can buy are in public companies that have registered their stock with the SEC. Privately held corporations also have stock, but it may not be sold to the public.
Bonds are loans that can be bought or sold. Each bond represents a promise by the issuer to pay a certain amount of interest and repay the full amount of the debt owed on a specific date in the future. The issuer (borrower) might be the US government, a state or local government, or a corporation. Interest from municipal bonds—those issued by state and local governments—may be exempt from federal income tax and usually tax of the issuing state. US Treasury bonds, bills, and notes are generally exempt from state income taxes. Interest from corporate bonds is fully taxable.
Certificates of deposits or CDs are accounts where account holders must keep their money in the account for some time, usually a few months or years. Typically, the longer the account holder holds the account’s money, the higher the interest rate will be. However, if the saver must take money out before the CD’s maturity, they may have to pay a penalty.
Like savings accounts, CDs are FDIC-insured up to $250,000. Therefore, if the financial institution holding the funds fails, the government will cover the principal amount up to the limit.
CDs were popular investments for those looking for a safe place to grow and store their money in the past. While interest rates used to be in the double digits, they average about 1% for even a five-year CD.
Mutual funds are collections of investments that trade as a single security. Think of them as a suitcase full of securities: stocks, bonds, gold, or almost any other legal investment. They can be actively managed or passively invested. The main benefit of a mutual fund is diversification. You can buy shares of one fund and own a tiny amount of many individual stocks or bonds.
Exchange-traded funds (ETFs) are groups of securities such as bonds. ETFs, that give investors low-cost access to a wide range of different markets. Essentially, ETFs allow investors to construct DIY portfolios that are affordable and effective to match their goals and objectives.
Similar to trading stocks, ETFs trade on an open market like the New York Stock Exchange. Therefore, investors have the opportunity to buy and sell ETFs throughout the day.
Some of the most common types of EFTs include market ETFs, representing a market sample, and sector ETFs representing a sector or industry of a stock market.
The U.S. Department of the Treasury issues Treasury securities. Virtually, they are sold and backed by the federal government. In exchange for a fixed interest rate, U.S. Treasury securities provide funding for the government. Since the government has the finances to ensure they don’t default on these financial obligations, investors are guaranteed their principal will be returned with the interest the security holds. However, investors must hold the security until it reaches maturity to receive the amount indebted.
Treasury securities are considered a safe investment because they have a relatively low-interest rate compared to other investment choices.
Cryptocurrency, also known as crypto, is digital money. Investors can transfer crypto to someone online without using a financial institution such as a bank. There are many different types of crypto, but the most commonly known currency issued is Bitcoin. Since its founding in 2010, the currency has been considered unstable, making it a risky investment.
Although the crypto market is flourishing and mature with increased regulations and oversight, it may still be a risky investing endeavor.
Real estate investment trusts (REITs) allow investors to invest in commercial real estate without the task of full property ownership. REITs are companies that own income-producing properties or other real estate assets.
Investors often invest in REITs to diversify their portfolios or yield high dividend returns that some REITs provide. But, like any investment, there are risks involved with investing in non-traded REITs. Some risks include liquidity risk, high fees, and commissions that may lower investment value.
💡 If you’re interested in REITs, check out: What Are Alternative Investments? Definition and Types
Annuities are insurance contracts where the investor exchanges a lump-sum payment for a series of payments later, like during their retirement years.
Generally, there are two types of annuities, variable and fixed. Variable annuities put the lump-sum payment into different investments, whereas a fixed annuity guarantees a set payment.
Before you start investing, it is important to identify and understand your financial goals. For example, one common goal many people have is retirement planning. For any goal, selecting an investment strategy depends on your goal amount, the time horizon, and your risk tolerance.
Goals can be broken down into short-term, medium-term, and long-term goals. Determining the time horizon of your goals can help you decide which type of portfolio to build. This idea is known as goals-based investing.
For example, if you’re young (18-32 years old) and one of your goals is retirement, you may consider an aggressive portfolio—since your retirement date is 20+ years out, your portfolio can weather the market ups and downs. As you get closer to retirement age, it may make sense to move to a more conservative portfolio—the closer your goal is, the less risk you’ll likely want to take.
Recommended: Common Savings Goals by Age
Here are some common financial goals.
• Emergency fund
• Travel
• Buying a car
• Buying a home
• Starting a family
• Home addition/renovation
• Child’s college savings
• Buying a second home
• Retirement
• Financial independence
Here are some important investing terms to know. Below each definition, you’ll find an article that dives deeper into the term for more information.
Diversification is spreading your investment over many different asset classes, business sectors, industries, companies, and countries. Investing has many risks, different assets carry specific risks to their asset class. Diversifying your assets can help to mitigate specific risks in the market.
Why Portfolio Diversification Matters
Asset allocation uses statistical analysis to manage diversification. Modern Portfolio Theory attempts to construct a portfolio that maximizes the potential for return at each given level of risk. It does this by analyzing each asset class’s historical return, the variability of that return (variance), and the degree to which asset classes go up or down in price at the same time (covariance).
Explaining Asset Allocation by Age
Investments go up and down in value. Some, like stocks of small, speculative companies, go up and down a lot. Others, like high-grade corporate bonds, tend not to move much. Volatility is a measure of how much the price of an investment is likely to move in a given time period. The more volatility the asset has, the riskier it is thought to be. Generally, the more assets in a portfolio, the less the volatility of any one asset impacts the risk of the portfolio.
Investors usually focus on the risk of the value of an asset going down. There is not much we can do about things like wars and natural disasters. However, things like bad management of a company, new competition, and new government regulation can be mitigated. You can diversify your portfolio so things that hurt a particular company, industry, or country don’t wreck your whole financial plan.
6 Investment Risk Management Strategies
Normally, a recession is declared when U.S. gross domestic product (GDP)—which represents the total value of goods and services produced in the country—drops for at least two quarters in a row. However, that’s not the only criterion for declaring a recession. For example, some other indicators to describe a recession include: declines in industrial production, falling oil consumption, and increased unemployment for two quarters.
Here is a basic overview of some very important investing topics:
Buying stocks gives investors two possible ways to grow their money. The first is when a company grows and expands, the stocks may appreciate. The other way is when companies profit, they may give dividends to their stockholders in the form of additional stock or cash. Usually, dividends are regular payments that investors may see quarterly or annually. Essentially, dividends may provide an income for the investor.
Because stocks have a high potential for returns, they are often the foundation of many investment portfolios. However, while stocks have the chance for considerable growth, they also can yield substantial risk. So, although stocks can grow an investor’s nest egg, there is a chance they can lose their investments as well.
There are two ways investors may lose their investments. First, if a company fails or goes under, the stock may drop in price, and second, the market could dip due to occurrences such as recessions or war.
While it’s wise to diversify a portfolio by purchasing various stocks and other assets to mitigate risk, it’s important to point out that investors can lose money.
The market fluctuates every day. Again, investing in the stock market can be risky, but there is also the chance that you could grow your money. Remember, time in the market beats timing the market. To invest in stocks, you’ll need to open an investment account.
You can choose the stocks yourself, or have a professional put together a portfolio for you. Want to learn more? Check out these articles below.
An Initial Public Offering (IPO) is when a private company goes public, and its stock is traded in the market for the first time. Until a company is publicly traded and registered with the Securities and Exchange Commission (SEC) or procures an exemption, they are not legally allowed to sell stock to the public. Also, the company doesn’t have to disclose financial information.
Becoming a publicly-traded company requires a lot of hard work, money, and time. Companies generally need to work with lawyers, accountants, and underwriters to launch their IPO.
There are several reasons why a company would want to “go public”. However, the most common reason is to raise capital for the opportunity for expansion. Offering stock to investors gives the company a chance to access a sufficient amount of capital.
Although IPOs allow investors to invest in a newly public company, they can be risky investments. It’s not uncommon to see a stock price of an IPO significantly higher or lower than the offering price. Since the price is determined by negotiations with the underwriters and the involved parties, the IPO valuation price is not determined by supply and demand, which is the case for regular stock trading. Therefore, buying an IPO leaves investors exposed to the risk of pricing.
It’s also risky to buy an IPO right after release. Underwriters may try to support the new IPO by engaging in a trading activity such as buying shares. The problem comes in when the underwriters no longer support the shares, and anything can happen.
With this in mind, it is important to do your research if you want to buy IPO stocks.
Understand when the company you want to invest in is going to IPO, what the stocks are priced at, and when the stocks are available to buy.
Remember that the IPO price and the actual price you’ll pay for the stock can be different—the offering price is a fixed price reserved for a select group of investors. Ready to start investing in IPOs? Dive deeper to gain more knowledge.
The ultimate goal is to retire and not have to work anymore. But how do you get there? First, you should calculate how much money you’ll need in retirement and how much you have saved so far. Then, research the different types of retirement plans to decide which one(s) matches your goals.
An individual retirement account (IRA) is an account that you open and fund yourself, not through an employer. Your contributions to your IRA will not be taxed until they are withdrawn from the account. The contribution limit in 2021 is $6,000, or $7,000 if you are over 50 years old.
A Roth IRA is also a retirement account that you open and fund yourself, not through an employer. The main difference between a traditional IRA and a Roth IRA is that there are income limits to contribute to a Roth IRA and if you are eligible to contribute to a Roth and satisfy the holding period requirements then withdrawals can be made tax-free. That way, when you withdraw money from this account later, it will not be taxed again. The 2021 contribution limit is $6,000, or $7,000 if you are over 50 years old.
A 401(k) is another type of retirement account, but this one is offered through an employer. Normally employees make pre-tax contributions, but some companies allow you to make after-tax contributions. The contribution limit for 2021 is $19,500 or $26,000 if you are over 50 years old.
Once you’ve decided on the right retirement plan for you, you’ll need to open the account and fund it. Also, you should determine how much you will be contributing on an ongoing basis.
$100/month? $100/week? Contribution amounts will differ by financial situation, so take some time to figure out what works best for you. For more information on retirement, check out the articles and tools below.
Investing in properties can allow investors to either earn a profit from selling the home or a rental income from renting the property out. Investment properties can either be short-term or long-term investments, depending on how the investor uses the property. For example, if they decide to renovate it and sell it for a profit, it may be a short-term investment.
For investors who think this is the right investment endeavor, it’s crucial to plan before committing to a property. First, the investor may want to nail down a budget to determine an area to purchase a home. Then, the investor should calculate future gains. If they decide to flip the home, they would need to determine how much they want to spend on renovation and how much they could sell the home for in the future.
As with most investments, investors need to consider risks before taking the plunge into real estate investing. For instance, housing prices can plummet, and the rental can become less desirable, or the investment property can become a money pit.
So, before investing in a real estate property, it’s crucial to weigh the pros and cons and determine if the risk is worth the reward.
Before investing, it’s crucial to consider all risks involved. While there are different risk levels, understanding the various types of risks helps investors determine their risk tolerance.
• Market risk. Sometimes economic trends such as political unrest or recessions have an impact on how the investment performs. Therefore, an investor may experience a loss if factors impact an entire market.
• Inflation risk. Over time the cost of goods and services may increase, impacting the investor’s purchasing power. For investors who have money in accounts with fixed interest rates, inflation risk is often a concern.
How to Invest During Inflation
• Business risk. If a company goes out of business or fails, investors may lose their investment. This type of risk is known as a business risk.
• Liquidity risk. For investments that don’t have a convenient platform to sell the investment when the time comes, they may have exposure to liquidity risk.
• Horizon risk. An investor’s time horizon is the amount of time they have until they meet a specific goal. If their time horizon shortens due to an unexpected event such as an emergency expense, this is known as horizon risk.
Importance of Time Horizons for Investing
• Concentration risk. When an investor only invests in a limited asset, they are exposed to concentration risk.
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