Investing is a critical part of total financial health. It can mean the difference between barely scraping by on Social Security later on in life or living comfortably and having the money to do things you want to do. There are many ways to invest, but regardless of what avenue you choose, one thing is true—the earlier you start, the better returns you can get.
Investing is defined as when someone commits money or other financial assets to something with the expectation to gain a financial return.
Find out how to start investing today with this guide.
What You Can Invest In
Whether you have been investing for years or you are a new investor, it is important to understand the different types of investments. Each has different purposes, risk levels, and expected returns.
Some require more of a financial commitment but have the potential for larger returns; others require less of a commitment or have less risk, but also will have less of a return.
Investing in Stocks
A stock is a tiny piece of ownership in a business. Corporations and companies issue stock in two types: common stocks and preferred stocks.
- Common stock is generally what people are referring to when they talk about buying stocks. If you own common stock, you are part of the company’s ownership, called shareholders or stockholders. Each year, the board of directors for that company looks at its profits and losses and decides whether to send shareholders a piece of those profits or reinvest them into the company.
- Preferred stock is just what it sounds like—stock that ranks a bit higher than common stock. Preferred stockholders get their share of the profits, called dividends, before the common stockholders. If the company ends up going bankrupt, they have to pay back the preferred stockholders first as well.
You can invest in stocks in several ways:
Using a Financial Advisor to Invest in Stocks
For many years, your only option was a financial advisor, who navigates Wall Street for you, advises you on the best groups of and individual stocks to buy and sell, and actually files the transactions for you in your investment account. Though you will often have to pay management fees, having a seasoned advisor to help you with your money can help ensure that your portfolio makes sense for your investment goals.
Using a Robo Advisor or Online Platform to Invest in Stocks
You can sign up with a robo advisor, which is a software that will automatically buy and sell your stock based on the parameters you set. You can also use one of the many online stock trading brokerage firms dedicated to DIY investors who want more control over their investments. Not all of these options are expensive; in fact, some platforms are completely free.
Using a Micro-Investing App to Invest in Stocks
You don’t necessarily need a lot of money to invest either. In fact, micro-investing apps such as Acorns and Betterment are highly popular—and they allow you to invest tiny amounts of money at a time, such as rounding up your debit card purchases to the nearest dollar and investing the change.
Returns can vary widely depending on the type of stocks you own and how the companies you invest in do over time. The average return you can expect is about 12% over the long term, while in a booming economy you could see returns of up to 30% or higher, though these higher returns are not normal and usually regress to the mean.
The risks involved with stocks are obvious; in order for you to get a return, the company you’re investing in needs to perform well. Companies who take an economic turn for the worse could end up cutting into your returns—or even into your initial investment.
Investing in Mutual Funds
If the idea of trying to find, research, and invest in the right company sounds like a lot of complex work, you might be more interested in a mutual fund. They’re one of the most popular investment types in the United States because they allow people to invest in a section of companies that are grouped together.
What Are Mutual Funds?
A mutual fund is a collective pool of money that gets contributed to by companies and individuals alike. The fund has a manager, whose job it is to invest the money for the investors according to the parameters and goals set up for that fund.
A long-term fund, for instance, might be made up of companies whose value has wild fluctuations in the short-term but will net high gains over time. A fixed-income fund, on the other hand, will be invested in strong companies whose value is fairly set and might grow very slowly, but also won’t lose money.
The average return on a mutual fund is less than if you invested in stocks, with a 20-year return of about 4.67%. In the short term five-year market, they did slightly better at 6.92%. Mutual funds have many of the same risks as stocks do; you’re investing in the future of a company. If the company goes under, so does your money.
Investing in ETFs
An ETF is an exchange-traded fund. The simplest way to think of them is as mutual funds that are traded like stocks daily on Wall Street. ETFs offer diversification by spreading your risk out over different types of funds.
You can buy ETFs online from “spiders” such as Standard & Poor’s Depository Receipts, which track the S&P 500 stock market.
ETF returns are gauged by how well they did against the S&P 500 or other indices.
The risk in ETFs lies in the market itself; if the market collectively does well, so will your ETFs. There is also risk in the type of ETF you’re investing in. If you have a biotech ETF, for instance, and biotech companies hit a slump, you could find yourself losing money even if the market is generally doing well.
Investing in Bonds
If your goal is to eventually live off of the interest generated by your portfolio, then bonds are something you should look into.
There are different types of bonds, but they all operate under basically the same principles. Bonds result in an investor lending money to the issuer in exchange for interest payments. You could invest in a municipal bond used to build a hospital or other project in your city; you could also invest in government bonds, corporate bonds, and other types as well.
Though bonds are often seen as safer than stocks, they typically offer lower returns. There are also several risks involved with them. Understanding their terms is crucial; bonds with long terms can often fluctuate a great deal, which means your investment value can go up and down as well.
Investing in Real Estate
There are several types of real estate, or property, investing. You could purchase a home or apartment building and rent it out for income. You could also engage in ancillary real estate investment, which basically means you install vending machines, a mini-laundromat, or other things inside of a building that someone else owns. You can even invest in real estate online or engage in some crowdfunded real estate purchases that let you buy a piece of property without having to take on 100% of the risk.
In order to do this, you’ll generally need a fairly sizable amount of money to start, and the risks are great. A tenant could end up treating your property poorly, resulting in you needing to put money into repairs. They may not pay the rent, which leads to you having to evict them, pay for court costs, or other associated fees. If you use the equity in your own home to make your first rental property purchase, you could find your own residence at risk.
Returns vary; it all depends on what you invest in, where your money comes from to purchase it, and whether your tenants or mini-business do well. Having a property manager who handles the day-to-day operation of the property can help but will also cut into your profits.
Investing in Cryptocurrency
Cryptocurrency is “mined” by computers that are solving complex math problems. There are hundreds of cryptocurrencies on the market, but for most people, Bitcoin is the most well-known. You can buy these currencies through Bitcoin and cryptocurrency exchanges, in which you trade dollars for Bitcoins. You can hold your virtual currency online in a wallet or download it to a hardware wallet with encryption for more security.
Bitcoin has the potential for huge short-term returns; the problem is that you’ll need to babysit your investment pretty closely. You could make as much as 100% in a matter of weeks—you could also, however, lose your investment almost entirely. Bitcoin is highly volatile, and in 2017, the value ranged anywhere between $967 to $13,860 depending on the day.
You can buy or sell your Bitcoin much like stocks, and there are a number of exchange apps that allow you to purchase fractions of a Bitcoin.
Investing for Retirement
Many people see retirement as an abstract concept that is so far off in the future that they don’t need to worry about it now. In reality, you should be starting to plan and save for retirement as early as possible because of a little thing called capitalizing returns, waiting to invest in retirement can result in thousands of dollars lost.
You can invest for your retirement as an individual investor or through a brokerage account in which it will be managed for you.
A 401(k) is a type of retirement plan usually offered by your employer, though you can open one by yourself as well. You can have a certain amount of your paycheck diverted to it each month, and in some cases, the employer will also match your contribution to a certain percent, which grows your balance faster.
Read More: Should You Max Out Your 401(k)
The funds are invested into mutual funds, although you are usually able to also choose the fund that you’d like them invested in. As the money grows, profits are reinvested, which results in exponential growth. One thing to keep in mind is that contributions to a traditional 401(k) are not taxed upfront. Therefore, when you deduct your funds during retirement you will be taxed at the back end.
Traditional IRA or Roth IRA
An IRA is an individual retirement account, and it can help you plan for retirement while also lowering your tax liability. You can contribute up to $5,500 per year into IRAs, and doing so lowers your adjusted gross income, which means you’ll pay less income tax each year that you contribute.
Read More: Best Place to Open a Roth IRA
Which Investment Strategy Is Best for You?
With all of these investment options available, it might be hard to know which direction you should go. The first thing to ask yourself is how long you plan to invest for; if you’re in your 20s, for instance, you can probably take on a riskier investment type that’s meant for long-term growth but might have short-term losses. If you’re a bit older, you’ll look at more stable investments that have less growth but are also less volatile.
You’ll also want to consider what your priorities are. Do you want to be able to live off of the interest your portfolio makes while keeping your investments intact? Or do you plan to cash things out when you reach retirement age?
Understanding what your plans are will help inform your current choices. It is also always a good idea to have a diversified portfolio so if any one type of investment takes a big hit, you won’t lose all of your investment money.
How to Determine How Much You Should Invest
The first step to deciding how much you’ll be investing is to understand how much you have available—and for that, you’ll need a budget. Make sure that you have your other debts and obligations accounted for, have set up an emergency fund, and that you aren’t cutting into your living expenses.
Depending on what your priorities are, you may find that you can do without the expensive yearly vacation, for instance, choosing instead to put that extra money toward your retirement so you can live well later.
It’s also important to diversify your portfolio. This not only lowers your overall risk but can help stabilize your returns as well. If you have all high-risk stocks, for instance, if the market hits a rough patch you could lose a great deal of money. By spreading your money into different types of investments, you can ensure that even if one part of the market takes a downturn, your overall portfolio is still intact and earning you money.
Check out these articles for the best way to invest your money at certain brackets:
- Best Ways to Invest $500
- Best Ways to Invest $5,000
- Best Ways to Invest $10,000
Financial health is important—not just for your day-to-day life, but also in your future, when you’re reaching retirement age and will have more time to do the things you want. In order to ensure that you also have the money to do those things, investing is a crucial step to take in managing your personal finances and reaching your financial goals.
Instead of letting money that you don’t need immediately sit in your savings account, you may be able to start harnessing the power of compound interest through one of the options listed above.
Image Credit: Depositphotos.