Investing 101 (Part 1/3)

Investing may be one of the most misunderstood and feared words in the financial dictionary for the average person. Almost everyone knows that they are supposed to invest some of their money, but few no where to begin. This series is designed to help alleviate some of those fears by shedding light on a few basic investment principles.

What is financial investing? Simply put, investing is taking money and placing it somewhere that creates a profit. The most common ways this is done is by investing in CD’s, mutual funds, stocks and bonds, real estate, IRA’s and other financial vehicles. The sky is virtually the limit as to what people may consider an investment.

The goal of investing is to put your money to work for you. Over time your investments should be appreciating in value so that at a designated point in the future you will be able to draw on your investments as a means of income, like at retirement. Easy right? Well it is if you know when, where, and how much to invest. Let’s look at each.

When?

“Now and immediately” would be the typical answer that comes to mind, but there are a few exceptions that may apply to you first. First, being debt-free except for your home (if you own one) is a must. Consumer debt will eat away at your financial health like a virus, and it limits your cash-flow too. Get and stay debt-free, and don’t invest another dime until you are. Secondly, if you know of a major expense coming up that you will need access to cash for, like a medical issue, job relocation or something similar, postponing investments for a few months to aside additional cash to meet these needs can be a smart move.

How much?

The best rule of thumb is 10-15% of your monthly income should be invested for your future. Over a 30-year period of routine investing you will be financially prepared to look at retirement, or whatever you’d like to call your next stage of life. The target is financial freedom!

Where?

To answer this one you need to look for the ROI: return on investment. The ROI is the key to selecting the right financial vehicle to invest your money into. Look for an investment that averages a 10-12% annual ROI and has a long track record for meeting that average. Earning 10-12% on your investments over a 30-years creates wonders in terms of compounded interest!

In part 2 and 3 of this series we will look closer at the questions of “how much” and “where”?

Get Invested!

Investment: “A commitment of dollars for a period of time with the expectation or hope of receiving future payments that will cover any inflation and compensate the investor for the time that the funds are committed and the uncertainty of any future return. An investment may be made by any person or entity, including corporations, pension funds, or a government, and be made in land, equipment, stocks, bonds, commodities, or any other financial instrument” (Webster, 2003).

If Webster’s definition wasn’t quite simple enough for you lets put it this way. Investing is simply placing your money where it should make a good financial return. If you have a savings account then you probably know that interest is being accumulated each month as your money rests in the account. The only problem with this however is that you’re probably making no more than 2-3% at most. You need to place your hard earned money somewhere that can accumulate interest with higher efficiency. Financial advisers agree that people should place between 10-15% of your monthly income into an investment of some type, but regardless of the amount make sure it is working as hard as it can for you. This is where most people have the trouble. “Where do I do this?” The following list is nothing more than a starting point to get your money working harder for you. It is a list of the most common investment vehicles.

1. Savings Account – Typically only return between 1-3%.

2. CD (Certificate of Deposit) – Offered by most banks, a CD can be made in terms as short as 1-month up to 5-years or more. The longer the term the greater the return, but rarely above 6% even for the long term ones.

3. Bond (Savings) – Essentially a loan to the US government for a period between 10 to 30 years. There are a few different types but few that return an annual interest beyond 7-8%. They are considered “risk free” investments because they are guaranteed by the government…if you consider that safe.

4. Mutual Fund – An investment company that pools shareholders funds into one portfolio of securities. There are four main types of mutual funds: stock, bond, money market, and hybrid (mixture of stock and bond). Within these four are numerous types of portfolios that focus on business type, size, capital, ethics, and hundreds of other methods. If you are looking for a diversified portfolio that increase in value at a fairly stable and consistent rate (10-12% average), a mutual fund is your best bet. You normally pay a broker a fee for managing your portfolio based on either trades or account value.

5. Individual Stock Account – Basically an account for trading securities (stocks, bonds, futures, currency, etc) through a third party company such as TDAmeritrade, Scottrade, Schwab, or Fidelity. The Internet has spurred this method of trading as literally anybody can set up and manage their own portfolio, controlling everything from researching companies, purchase and sell securities, and the rest of the works. The fees are very low but the risk is MUCH higher as you become responsible for the full performance of your investment.

6. Private Investment – This is the category I throw every other type of investment into. Land investment, house flipping, business start-ups, and ostrich speculation (don’t ask). There are numerous investment opportunities out there that don’t always follow a “traditional” method. Some are good, some are not.

In summary, the goal of this post is to let you know there are a variety of ways, many unmentioned here, that you can make your money work hard for you. You have to get started. Each day that your money is not invested somewhere earning a good return is like your money being on a vacation. This should be the other way around.