When it comes to making any solid life plan, one of the first steps is determining how you are going to invest money for your future. Investments are basically money making money for you, and without them, your entire financial future will be dependent on your income only. For most people, especially those with dreams of children, home ownership, travel, and retirement, this strategy is simply not feasible.
Of course, there are many types of investments, each carrying their own pros and cons, levels of risk/reward, and various forms of accessibility. For the beginning financial life planner, it’s important to know some of these pros and cons before you start putting your hard-earned money into investing.
Stocks and Bonds
Stocks and bonds are some of the most basic, easily accessible forms of investments. Bonds are debt-based investments. Basically, when you purchase a bond, you’re loaning money to the government. In exchange for you generosity, the government will pay you interest on this loan. The biggest benefit of a bond is that it’s basically risk-free. The government is good for it, and you can pretty much count on that. The drawback is that bonds are typically low-yield, and you’re not going to make any real money investing only in bonds.
Stocks, on the other hand, are pretty much the opposite. When you buy stock in a company, you’re basically becoming a part-owner in the company. Your success depends on their success. Stocks are volatile, which means they are less safe than bonds or other types of investments. There is a better chance for higher returns, however. Some stocks even pay dividends, which you can access without selling the principal stock.
Most solid investment portfolios will feature a mix of stocks and bonds.
Investing in a Small Business
Investing in the stock market is one way to invest in a business venture. Another less talked-about way of investing is to make a direct investment in a small business, either by starting your own or contributing to another party’s.
If you decide to start your own small business and it’s successful, the rewards can be significant. Obviously, if you have full ownership of the venture and don’t take on any investors, you’ll earn the highest return on investment (ROI). For this reason, many people choose to take out a loan rather than borrow money from investors. If this is the route you want to take, be sure to speak with your financial adviser about the type of loan that’s right for your business and how much you can afford to borrow.
Conversely, you may wish to financially back an existing or up-and-coming business. This enables you to take a dividend or distribution when the company makes a profit. Many people then take these earnings and put them into more traditional investments (like stocks, bonds, mutual funds, or retirement accounts).
Mutual funds, one of the most popular types of investments, is a collection of stocks and bonds managed by a professional. When you buy into a mutual fund, you’re pooling your money with other people. The benefits of mutual funds are numerous. Obviously, you’re letting everything be handled by a professional who, at least in theory, knows more about how to make money than you do. Mutual funds are diverse, so you’re not putting all your eggs in one basket. Most banks have their own mutual funds and it’s super easy to get started with even a small investment.
On the other side, mutual funds require you to pay a fee to the operator. Also, there’s the problem of dilution.
“It’s possible to have too much diversification. Because funds have small holdings in so many different companies, high returns from a few investments often don’t make much difference on the overall return. Dilution is also the result of a successful fund getting too big. When money pours into funds that have had strong success, the manager often has trouble finding a good investment for all the new money,” says the Investopedia in their primer on mutual funds, which you should check out.
Whether it’s individual retirement accounts (IRAs), specific Roth IRAs, or 401(k) plans, most economic advisers will tell you that investing in specific retirement funds is 100% necessary in a financial life plan. Many employers will match your deposits into your 401(k), so that’s one thing to start taking advantage of as soon as possible – it’s pretty much free money!
These are the basic types of investments for beginners. Moving forward, you can invest in alternative pathways like real estate (more than just buying your house, mind you), FOREX, and futures. It’s important to start investing as early as you can, as the whole principle of compounding is what makes investing so lucrative.
This post was written by Brittany Fisher. For more of Brittany’s work, visit Financiallywell.