Saving money is great. But today, savings accounts typically yield little to no interest. Those whose goal is to save money may want to consider choosing to invest in a number of assets that can grow wealth through their capital gains or dividends/interest payments.
In general, low or 0% interest rates encourage people to not only borrow and spend more but to take additional risks with whatever saved capital they do have. This is part of the theory behind the monetary policy of central banks like the Federal Reserve.
So while investing has always been crucial to growing wealth, in today’s world, it’s probably more important than ever. Simply holding cash typically doesn’t cut it, and the interest rates on standard bonds and savings accounts don’t even come close to beating inflation. In some cases, rates are close to 0%.
Fortunately, there is an array of options available to investors. Some of these include mutual funds, exchange-traded funds, robo-advisors, fractional investing, and cryptocurrency.
1. Mutual Funds
Mutual funds involve an investment team creating a portfolio of assets using cash collected from many investors. The fund then issues shares that represent a portion of its portfolio.
These shares change in price at the end of each trading day, rather than changing constantly throughout the day like most stocks. The share price of a mutual fund represents its net asset value (NAV).
Mutual funds can make investors money in one of three ways: dividends, capital gains and net asset value.
Dividends represent a portion of a company’s profits that get passed on to shareholders, typically on a quarterly basis, although sometimes payments are made monthly or semi-annually. Investors receive a set amount of money for every share they hold.
Mutual funds that hold dividend-yielding stocks are required to pass on those gains to those who hold shares of their fund.
Capital gains come into the picture when the fund managers sell assets at a higher price than they purchased them for. As with dividends, the fund is also required to pass on most of these gains to shareholders.
Net Asset Value
Finally, the NAV of a fund can create profits for shareholders if they decide to sell the fund shares at a higher price than they purchased them for.
One potential drawback to mutual funds can be fees. Because these funds often have a professional team of portfolio managers, fees are typically part of the package deal.
2. Exchange-Traded Funds (ETFs)
ETFs can be a great tool for some new and experienced investors to gain broad exposure to a wide variety of different asset classes. Purchasing shares of an ETF works just like purchasing shares of an individual company’s stock.
ETF trading tends to come with low operating costs, meaning investors who buy and hold shares aren’t usually on the hook for any hidden fees, as might happen with some investment products.
These days, there are ETFs for almost anything.
Imagine an investor who wants exposure to gold mining stocks. But researching all of the many different mining companies out there, examining their plans, management, profitability and more all seems overwhelming. What could such an investor do?
They may want to consider buying shares of any number of different ETFs that include a basket of gold mining stocks.
There are ETFs for real estate, oil, bonds and stocks of different companies in many different industries.
Some new investors might find robo-advisors appealing. This method of investing takes the guesswork, calculation and research out of the investing process. Individuals don’t have to learn their way around a brokerage account, decide how many shares of something to buy or learn how to place different types of buy/sell orders.
Instead, an online robo-advisor will ask the investor some simple questions about their investment goals, risk tolerance and where they are in their wealth-building journey (current age and desired retirement age).
Then, based on those answers, a portfolio will be generated, and the amount of money the investor would like to invest will be allocated accordingly.
There are typically several different model portfolios that will be recommended to investors, ranging from conservative risk-off, to moderately risk-on, to aggressively risk-on.
The various model portfolios usually provide a mix of assets according to how much risk an investor ought to take, which is determined by the answers given to the robo-advisor’s questions.
For example, traditional wisdom dictates that younger investors can take more risk because they have more time to make up for potential losses. On the other hand, older investors who find themselves closer to retirement are generally urged to take as little risk as possible since steep losses could ruin their retirement plans.
4. Fractional Shares
Another option that may appeal more to inexperienced, risk-averse investors is something called fractional share investing. With this type of investing, it’s possible to get started with a small amount of capital.
Fractional share investing allows users to buy small amounts of stock — as little as $1 — one trade at a time. The major stock exchanges don’t allow this type of transaction.
The New York Stock Exchange, for example, requires that investors purchase a minimum of one whole share of any stock in order to place a buy order. This can be problematic for newer investors working with small sums of capital, given that some stocks have share prices that are well over $1,000 (e.g., Amazon).
To remedy this problem, some brokerage firms buy entire shares of stock and then split them up into smaller pieces among investors who either can’t afford or aren’t interested in buying whole shares.
These smaller share pieces are referred to as “fractional shares.” This way, people can get some exposure to individual stocks with high share prices when they otherwise would have been priced out of the market.
One thing that might be worth keeping in mind when purchasing fractional shares is the brokerage fee. Buying anything in small increments can result in oversized fees for the size of the transaction.
A $1 fee might only be 1% of a $100 investment, but that same fee would be a whopping 25% of a $5 investment. It’s wise to ensure that the fees required don’t eat into potential gains too much whenever possible.
Many people consider buying Bitcoin to be a speculative gamble. While there may be some truth to this due to the extreme volatility this new asset class sometimes experiences, there have also been several successful investors praising Bitcoin recently.
Some have even invested millions of dollars either into the asset class itself or into call options that amount to bullish bets on the future of Bitcoin’s price.
It’s worth noting that while altcoins (cryptocurrencies other than Bitcoin) tend to be highly speculative and volatile, Bitcoin has a much more reliable history, larger market capitalization and more proven technological soundness than its many competitors.
It’s common to consider Bitcoin one of the riskier assets in general, and it might not be a good idea for most investors making the risk/reward ratio worth it to some extent, if history is any guide.
And the nice thing about cryptocurrency is that much like fractional investing, it’s possible to get started with a very small amount of capital.
Remember, diversification is intended to provide protection against potential declines in any asset class. Investors may want to consider consulting with a financial advisor to determine the best allocation for each type of investment according to their own risk tolerance and investment goals.
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