Investment Types—for Newbies

Jul 12, 2017 by

washington on moneyDoes this sound familiar: From media and friends’ conversations, you know you’re supposed to be investing. But you don’t really know what investing is or how to get started. “Who is this Dow Jones guy, and why is everybody talking about him?” But you don’t ask questions because you feel like you’re the only one who doesn’t know about investing. You’re embarrassed to ask. Figuring out this investment stuff is on your to-do list, but never quite floats to the top.

If I could be writing about you, read on!

Are You an Investing Newbie or Novice? No Worries—Almost Everyone You Know is Too!

You’re not as alone in your investing ignorance as it might appear. Learn just a little bit and you’ll probably be able to amaze your friends. But don’t give them investing advice. That’s a quick way to ruin a friendship.

The Main Investment Types for You and Me

Stock options? Foreign exchange trading? Collectibles? You’re not going to learn about those here. And if I were you, I’d stay away. Take an occasional trip to Vegas instead to satisfy your itch.

For we “boring” people, a list follows of the main investments you can make. As you go down the list, the risk—or chance of losing some or all of the money you spend to buy the asset—gets bigger.

If you run across a word you don’t know, try Investing Terms Basics.

1. A secure home safe or bank safe deposit box

This isn’t really an investment because you’re not buying an asset. But it is an option for your savings. There’s virtually no chance that the cash you put in a secure home safe or bank safe deposit box won’t be there when you want to take it out. BUT, here’s the catch: If inflation is above zero—meaning the prices of goods and services are rising over time—then as time passes you can buy less and less with a $100 bill you’ve got in your safe. Say inflation averages just 2% per year during your lifetime. If you put a $100 bill in your safe at age 30 and take it out to spend at age 65, that $100 bill will buy only half of what it would have bought when you were 30 years old. In other words, inflation has cut in half the purchasing power of your $100. When deciding how much you need to save for retirement, you’d need to factor in this decrease in your purchasing power over time if you plan to keep your savings in a home safe or bank safe deposit box.

2. A Certificate of Deposit or other account insured by the Federal Deposit Insurance Corporation (FDIC)

Most experts say investments insured by the FDIC are “risk-free,” meaning there is zero chance of you losing any of the cash you spent to buy the asset. You can judge for yourself the financial soundness of the U.S. Government. But FDIC insurance is intended to mean there’s no risk you will lose any of the money you spend to buy an insured investment. FDIC-insured investments will pay you an income stream, usually in the form of regular interest. To be sure a particular investment is FDIC-insured, look for “Member FDIC” on the website or literature of the institution selling the investment and visit the FDIC’s website.

3. Money Market mutual fund accounts not insured by the FDIC

Most money market bank accounts are FDIC-insured. But money market mutual funds offered by mutual fund companies like Vanguard, Fidelity, and T. Rowe Price may not be insured. Money market mutual funds generally offer higher yields than bank money market accounts, but along with that comes a small, but above zero risk that you could lose some of your principal—what you spent to buy your mutual fund shares—if the fund is not FDIC-insured.

TIP: Your Emergency Savings and the portion of your Planned Savings you’ll need to spend within the next year should be invested in one or more of the options above and none of the options below.

4. Bond mutual funds or ETFs

A bond mutual fund or bond ETF (exchange-traded fund) owns a large number of bonds. When you buy a share of the mutual fund or ETF, you’re buying a tiny piece of each bond the fund owns. This means your bond investment is diversified. Because the fund owns a large number of bonds, if a few issuers of the fund’s bonds don’t fulfill the bond’s promise to pay, you and the other mutual fund shareholders don’t lose much.

5. Stock mutual funds or ETFs

A stock mutual fund or stock ETF owns a large number of stocks, or equities. Often a mutual fund will focus on companies in a single industry or category, like energy or utilities or high technology, and own their stocks only. The risk of a stock mutual fund depends on the riskiness of the businesses in which the fund invests.

TIP: Don’t invest in actively managed mutual funds or ETFs. And see Killer Fund Fees.

6. Individual bonds

Corporations, cities, states, the Federal government, foreign governments, and other entities issue bonds to raise money to pay for big investments of their own. When you buy a bond issued by a corporation—General Electric for example—you are depending on the issuer to make to you the regular interest payments on the bond and pay off the bond’s face value when the bond matures at a specified date in the future. If GE can’t pay, you could lose most or all of your investment. Buying individual bonds generally is riskier than buying shares of a bond mutual fund or ETF because buying one or a few individual bonds offers little or no diversification.

7. Individual stocks

Similar to buying individual bonds, if you buy the stock of a company, then the return on your investment depends on how well that company’s business does in the future. Buying individual stocks is riskier than buying shares in a stock mutual fund because buying one or even several individual stocks offers little or no diversification. If a company goes bankrupt, the value of its stock will go to $0 and you’ll have lost all of your investment in the company.

8. Real Estate Investment Trusts

A Real Estate Investment Trust, or REIT, gives any investor a way to buy a diversified set of properties. Similar to a mutual fund, a REIT owns many pieces of real estate. When you buy a share of a REIT, you’re buying a tiny piece of each property. Individual REITs typically specialize in single types of real estate—shopping malls, hotels, or residential rental, for example. Generally REITs pay out a large income stream, or dividend, compared to stocks or bonds.

9. Real estate property

If you have a lot of savings, you could buy individual real estate properties directly. To succeed, you’d need to do a lot of research and be prepared to take on the challenging task of being a landlord. Unless you’re very wealthy, you won’t be able to buy enough properties in enough different geographic locations to truly diversify your real estate investments. For these reasons and more, real estate investing is risky.

10. Commodities

Do you think you can reliably predict the future price of oil or corn or gold? That’s what’s necessary to succeed in commodity investing.

11. A small business

Many of America’s top businesses—Hewlett Packard, Dell, Microsoft, Ford—began with one or two smart and motivated people passionate about an idea. If you have what it takes to be an entrepreneur—and many people don’t—investing your savings in yourself by starting or buying a small business may be worth investigating. Starting a business is the riskiest investment you can make, but also has a potentially big payoff.

Now get out there and start investing!

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