With so many options to choose from, beginning investing can be a little overwhelming. However, when one considers all that can be gained from investing, everyone should want to get started. Fortunately, investing only needs to be as complicated as one makes it, and modern investment vehicles can greatly simplify things.
Saving and investing means putting off what might bring some instant gratification today for future gain. It, therefore, requires some motivation and self discipline. Some things to keep in mind are:
- The importance of saving money: When people save and invest, they are making money work for them instead of just working for it. This is often the difference that enables some people to get ahead while others endlessly struggle. Even very modest savings, especially when started at a young age, really add up over time when compounded interest is added.
- Feelings of accomplishment and security: While buying something might give a temporary emotional boost, having money invested gives a feeling that never ends. The money will be there and growing long after other purchases are gone. It also will give a sense of security since it can be something to fall back on in times of need.
Everyone needs to think of goals and where they want to be in the future to find their own best reasons to begin investing.
Finding the right investment vehicles
For serious long-term investing, it is important to move past simple, safe, but low-paying instruments like CDs. Such instruments are trading security for much lower returns, and these lower returns make a big difference over time. While this kind of savings has its place, those beginning investing generally need to look beyond it
401ks: For those who have the option, a 401k is usually the best place to max out their investment, if at all possible. These company savings plans are advantageous because:
- They are easy and less painful way to save since the money will be invested before one has a chance to spend it.
- Any employer matching funds will be a bonus to one’s pay.
- By being tax deferred until retirement, any money put into 401ks can compound and grow much faster.
- If the money is withdrawn at retirement, it will likely be taxed at a reduced rate since most people are in much lower tax brackets then.
IRAs: After 401ks, IRAs are the second best beginning investment for most people (see 401k vs. IRA). There are two basic types: traditional IRAs and Roth IRAs.
- With a traditional IRA, the initial contribution is tax deferred. However, this contribution, and any earnings on that money, will be taxable when the money is withdrawn.
- Contributions made to a Roth IRA are not tax deferred. That is, the contributions will be purely after-tax income. However, since these contributions, and all the money they earn over the years will remain tax free when it is withdrawn, Roth IRAs are the better investment in most circumstances.
Regardless of whether one puts money in a 401k, IRA or some other investment, it is necessary to understand all the basic investment instruments. Generally, even beginning investors will have money in at least a couple of them.
Bonds: Bonds are debt securities issued by governments, companies and other entities. While the issuer of a bond has promised to pay back the principal amount of the bond plus interest (the coupon), bonds do have a degree of risk depending on the financial stability of the issuer. They will also generally rise in value when interest rates are dropping and move the other way when they are increasing. An important difference between bonds and another major security: stocks, is that bonds do not give the creditor a stake in the company. How they work is covered more in what are bonds.
Stocks: Stocks are fundamentally a share in the ownership of a company. While they will rise or fall in value with the fortunes of that company, the mood of the stock market also plays a role, particularly over shorter time periods. A lot more about stocks can be found at investing in stocks for beginners.
While stocks have done well historically as an investment and trading online makes it possible for even beginners to get into the market cheaply, the time it takes to really follow the market, and the advisability of investing into various types of stocks (e.g. large, medium and small capitalization), makes mutual funds and ETFs the preferred choice for many beginning investors.
Mutual funds: Basically, mutual funds pool money from various investors and put it primarily into stocks, bondsand money-market funds. There are many types of mutual funds, and they are explained more in mutual fund basics. The nice thing about them for those beginning investing is that they offer a way to have their money professionally managed 24/7. While they often have investment minimums to get into, even relatively small amounts can be added monthly with automatic investments.
ETFs: These function somewhat like mutual funds in that they pool investor money into various securities (they are covered more in what is an ETF). However, they are only designed to follow a certain index or market and are therefore not actively managed the way mutual funds are. This gives them much lower expenses. More detailed information on them can be found in what is an ETF.
ETFs vs. mutual funds: Basically, ETFs offer lower fees and lower investment minimums, since they can be bought and sold like stocks. On the other hand, mutual funds offer the potential to beat the market (even though they often do not) and professional management. However, keep in mind that even no-load mutual funds will have fees.
Real estate: With some of the instruments for investing in property now available, it is possible for even for those beginning investing to get into real estate. Although many investors like the feeling of owning part of something physical, keep in mind that real estate generally does not offer as good of a return as securities over time.
One easy way for investors to enter the real estate market is through a real estate investment trust, or REIT. Investors become part owners in the investments of the REIT such as malls, park garages, hotels, or other real estate ventures. REITs often pay high cash dividends to investors because the REIT pays no federal income tax in return for paying out 90 percent or more of their profits to shareholders in the form of dividends. Another way of making money through investing in real estate is through purchasing properties, improving them through repairing them or adding amenities, then selling them at a profit; or renting the houses to tenants and receiving a monthly income from the payments. This is covered more in buying investment properties.
Precious metals: There are various forms of precious metals investing. Some, to include investing in mining companies, does not involve actually buying the metal itself. However, there are many forms of precious metals investing that does allow for the ownership of the metals, although the owner usually not take physical possession. Some investors like the feeling of owning something that is real. The drawback of this kind of investing is that it is not a productive investment, and it incurs storage and transportation costs.
Futures: Futures are actually not something those beginning investing should consider, but it is best to understand what they are about Futures trading is a marketplace where buyers from around the world buy and sell futures contracts. A futures contract is an agreement to receive a product at a future date at a set price. Once the price is agreed upon, it is secure for the contract regardless of the changes in the market. Common futures markets include commodities, currencies, stock indexes, interest rates, and other alternative investments such as economic indicators. Investors who buy futures contracts are only paying a fraction of the cost of the item they are investing in. Most make only a small deposit towards the purchase as a good-faith gesture. Both losses and gains can be very large in the futures market. Successfully trading futures involves big risks and keeping a vigilant eye on the marketplace.
Commodities: Commodity investing is done through futures contracts. While instruments to include commodity ETF investing now make it possible even for beginners to invest in them, only those with a deal of experience under their belts should involve themselves in something as risky as commodities.
Although someone beginning investing will probably not have enough funds to get the optimal amount, diversity should be kept it in mind whenever investing. This is why ETFS and mutual funds are often a good place for beginners to start. In addition, remember that value is always more important than price. Socks that provide value are the most likely to provide a good return over time.
Investing is a long-term proposition and should only be approached slowly. Start doing research and do not rush into anything. Use sites like Morningstar to find funds that look like they will offer the best returns over time. Stick with reputable investments and firms and remember that anything that sounds too good to be true probably is.