If you’re new to investing, you may think you need a lot of money to invest. Or that the stock market is too volatile to make money. Or even that you can only invest with the help of a financial professional.
These and other misconceptions can keep you from getting started. The good news is, understanding a few basic concepts can give you the confidence you need to begin.
What is investing?
Essentially, investing is a long-term strategy to help you grow your wealth and pursue longer-term goals like paying for a down payment on a new house and funding retirement.
At this point, you may be wondering how investing and saving are different, since they both involve putting money away for the future. A savings account gives you easier access to your money, but it’s a lower risk/lower reward option. With investing, you accept more risk in exchange for potentially greater returns over time.
Read more about the difference between saving and investing.
Investing’s key ingredient is compounding, which occurs when you reinvest the investment’s earnings to potentially generate more earnings.
Consider this hypothetical example: Let’s say you invest $10,000 when you’re 25. With a static 5 percent return on that investment over a period of 40 years, compounded annually, you’ll potentially have $70,400 at age 65.
The earlier you start investing, the longer your investments have to generate more earnings, which generally leads to a greater impact.
Take a closer look at compounding in action.
Types of investments
There are a lot of choices when it comes to investing your money. The most common investment vehicles are stocks, bonds, mutual funds and exchange-traded funds (ETFs).
- Stocks are shares of a company, also known as equity. Essentially, you own a small portion of a company when you buy stock. You make money on stocks when they appreciate in value or through dividends paid by the company to shareholders.
- Bonds are small loans given to a corporate or government entity. If you purchase bonds, you’re expecting to receive repayment of your investment plus a set rate of interest for a specific period of time. In general, the longer the period of time (or maturity), the higher the interest rate on the bond.
- Mutual funds are a type of investment fund that’s professionally managed. You and other investors contribute to the fund and the fund manager invests in a large group of assets (generally stocks and bonds). If you’re investing in an employer-sponsored retirement plan, you’re likely already investing in mutual funds.
- ETFs are similar to mutual funds, but instead of investing directly into a fund, you buy shares on a public exchange, similar to buying stock. Generally, ETF fund fees are lower than mutual fund fund fees. However, you can only purchase ETFs through a broker, brokerage account or by using an automated investing tool.
Get more details on on the risks and returns of these types of investments in your portfolio.
Determine your investment strategy
An investment strategy outlines how you diversify your money among various investment vehicles. Diversification in investing is important because it may reduce the risk associated with any one type of investment. However, diversification and asset allocation do not guarantee returns or protect against losses.
Your investment strategy should be guided by four things:
- Your financial goals. Whether it’s purchasing a new home or sending your kids to college, knowing what you want to achieve can help you make the most of the money you’re investing.
- Your age/timeline. The longer your timeline, the more investment options you have (and the more aggressive you can be).
- Your risk tolerance. Every investment comes with risk. Generally speaking, the greater the risk, the bigger potential reward. Understanding your preferred balance of risk/reward is the foundation for your investment portfolio.
- How you want to invest. Would you like to work with a financial professional, invest on your own, or a combination of the two?
Keep in mind that your investment strategy should evolve throughout your life. Consider taking on more risk when you’re younger, since you have more time to recover from potential losses. As you get older, however, consider lowering your risk in preparation for retirement.
How to start investing
Just as with investing vehicles, you have choices when it comes to investment accounts; what’s right for you depends on what you’re looking for. Here are a few to consider:
- You can start investing your spare change (literally) through the convenience of mobile apps such as Acorns and Stash. These investment accounts are designed for investing beginners and offer access to investment education along the way. A note of caution that the monthly fees can add up, especially if you’re investing a small amount.
- If you have more money to invest and are ready for a higher level of service, consider using a robo-advisor. You provide your goals, timeline and risk tolerance, and the robo-advisor selects and monitors your investments for you. Minimum deposit amounts generally range from $500 to $5,000, and you often have access to a financial professional if you need it.
- Another easy way to invest is through an employer-sponsored retirement account, if you have access to one. Think 401(k) and 403(b) accounts. Contributions are directly withdrawn from your paycheck, typically with pre-tax dollars, and many employers match contributions, up to a certain amount.
Depending on your goals and funds available to invest, other options include 529 education plans, health savings account (HSA) plans, individual retirement accounts (IRAs), brokerage accounts and more.
Want more details on your investment account options? Take a deeper dive into how to start investing.
Investing can seem intimidating at first but understanding these basic concepts can help you begin your journey on the right foot.
Ready to begin? Learn how you can start investing your way today.
Equity securities are subject to stock market fluctuations that occur in response to economic and business development. Investments in fixed income securities are subject to various risks, including changes in interest rates, credit quality, market valuations, liquidity, prepayments, early redemption, corporate events, tax ramifications and other factors. Investment in fixed income securities typically decrease in value when interest rates rise. This risk is usually great for longer-term securities. Investments in lower-rated and non-rated securities present a greater risk of loss to principal and interest than higher-rated securities. Investing in mutual funds involves risk and principal loss is possible. Certain funds involve special risks, such as those related to investments in small and mid-capitalization stocks, foreign, debt and high-yield securities and funds that focus their investments in a particular industry. Exchange-traded funds (ETFs) are baskets of securities that are traded on an exchange like individual stocks at negotiated prices and are not individually redeemable. ETFs are designed to generally track a market index and shares may trade at a premium or a discount to the net asset value of the underlying securities.