Do you dream of a financially secure retirement? Do you know that you should invest, but don’t know where to start? If any of these questions apply to you, this tutorial will give you the basic background knowledge and vocabulary of investing from the ground up. The financial world can seem complicated at first, but we will make it simple for you and give you a solid understanding of the basics of investing.
However, it is important to note that investing will not make you wealthy overnight. Personal finance management requires effort and knowledge, including a basic understanding of financial theory. Regardless of your personality type, lifestyle, or interests, this tutorial will help you understand what investing is, what it means and how time earns money through compounding. However, this tutorial will not stop there. This tutorial will also teach you about the building blocks of the investing world and the markets, give you some insight into techniques and strategies for investing, and help you think about which strategies suit you best.
What is Investing?
Investing is the act of committing money or capital to an endeavor with the expectation of making additional income or profit.
In essence, investing is a way to make money without having to work. Most of us were taught in school that you can make an income only by getting a job and working. There’s one big problem with this: the more money you want, the more hours you have to work. However, there is a limit to how many hours a day we can work.
You cannot clone yourself to increase your working time, so instead you must send your money to work for you. While you put in hours for an employer or mow the lawn, sleep, read the paper, or socialize with friends, your money can be working for you. Simply put, making your money work for you maximizes your earning potential whether or not you receive a raise, decide to work overtime or look for a higher-paying job.
There are many kinds of investments. One can put money into stocks, bonds, mutual funds, or real estate (among other things), or start his or her own business. Sometimes people refer to these options as “investment vehicles,” which is just another way of saying “a way to invest.”.
We will discuss the advantages and disadvantages of each type of investment vehicle in a later section. The point is that it doesn’t matter which method you choose for investing your money; the goal is always to put your money to work so it earns you an additional profit. Even though this is a simple idea, it’s the most important concept for you to understand.
What Investing is Not:
While some investment vehicles may appear to be similar to gambling, the difference is that investing involves the purchase of a financial asset with the expectation of profit based on knowledge and research, whereas gambling is placing money at risk by betting on an uncertain outcome with the hope that you might win money.
Real investing requires action; hoping someone else will make money for you is not a sound strategy. A “real” investor does not simply throw his or her money at any random investment; he or she performs thorough analysis and commits capital only when there is a reasonable expectation of profit. There still is risk, and there are no guarantees, but the approach to investing should be professional.
Why should you invest?
Everybody wants more money. Investing is an effective way to increase your personal freedom, security, and ability to afford the things you want in life. Investing has become a necessity, not just a helpful tool, for many average people. The days when everyone worked the same job for 30 years and then retired to a nice fat pension are gone. Without investing, it is unlikely that these people will be able to maintain their standard of living in retirement.
You should start investing to take advantage of compounding
Compounding, also called “compound interest,” is a process in which earnings on an investment’s previous earnings are reinvested to generate additional earnings. Achieving financial independence through compounding depends on two key factors: Earnings and Time. The more time you give your investments, the more income you can generate from them, which reduces pressure on your income-generating activities.
Know yourself and your Personality
Investors can learn a lot from the famous Greek maxim inscribed on the Temple of Apollo’s Oracle at Delphi: “Know Thyself”. The oracle’s words emphasize that success depends on ensuring that your investment strategy fits your personal characteristics.
Investors have different objectives and personality traits, which means that each investor is likely to have different needs. There are three main categories of investor: those seeking employment income, retirees looking for growth capital, and long-term investors who want capital appreciation or interest income.
What is your financial situation and objectives?
Investors generally consider the safety of their capital, current income from investments and potential for capital appreciation when deciding where to allocate their funds. People’s age and life stage will determine their thinking about risk, as will their personal circumstances.
A 75-year-old widow worried about outliving her retirement portfolio would have different priorities than a 30-year-old business executive who needs immediate access to cash in case of an emergency. As the widow needs income from her investments to survive, she can’t afford to lose money in risky investments. The young executive, on the other hand, has time on his or her side, which allows him or her to be more aggressive in his or her investing strategies.
For investors saving for a short-term goal such as retirement, it might be prudent to be more conservative. Investors with longer investment horizons can afford to take on more risk and recover from short-term losses.
Prepare to hear many opinions on investment decisions
In investing, no rule can be considered absolute and a single approach is not always appropriate. Different investment styles and strategies often produce similar results.
One explanation for the appearance of contradictions in economics and finance is that they are social sciences. In hard sciences, like physics or chemistry, there are precise measurements and well-defined laws that can be replicated and demonstrated time and time again in experiments. But in social sciences, it’s impossible to “prove” anything: Economies can’t be placed in test tubes and experimented on.
Economists, academics, research analysts, fund managers, and individual investors might hold differing views about why the market operates as it does. These views are really nothing more than opinions; some might be more thought out than others but at the end of the day they are still just opinions.
The Basic Types of Investments
A number of financial instruments can be used for investing. To determine which instruments are most suitable for your needs, you should be familiar with their characteristics and purposes.
Bonds
A bond is a type of fixed-income security that is issued by a company or government to raise capital. When you purchase a bond, you are lending money to the issuer. In return, they pay you interest on your money and promise to repay the original amount of your loan.
Bonds are generally considered a safe, low-risk investment. Governments issue bonds, which can be purchased by investors who wish to diversify their holdings. If you buy a bond from a stable government, your investment is virtually guaranteed, or risk-free. The safety and stability, however, come at a cost: because there is little risk, there is little potential return. As a result, the rate of return on bonds is generally lower than other securities.
Stocks
When you purchase stocks, or equities, you become a part owner of the company. As an owner, you can vote at shareholders’ meetings and receive any profits that are allocated to owners. These profits are referred to as dividends.
Bonds and stocks represent two different types of investments. Bonds provide a steady stream of income, but stocks fluctuate in value on a daily basis. When you buy stock, you aren’t guaranteed anything. Many stocks don’t even pay dividends, in which case the only way to make money is if the stock increases in value – which might not happen.
Stocks generally offer greater potential returns than bonds, but this potential comes with greater risk: you may lose some or all of your investment.
Mutual Funds
A mutual fund is a collection of stocks, bonds, or both. When you buy a mutual fund, you are pooling your money with other investors to pay a professional manager to select specific securities for you. Mutual funds can be set up with any investment strategy in mind, such as large stocks or small stocks.
Mutual funds allow investors to diversify their portfolios and invest money that they might not have time or expertise to choose wisely. In theory, the expertise of the fund manager should result in a better return than if you self-directed your own investments. But there are potential issues with mutual funds that an investor should be aware of before choosing them, such as fees, expenses and potential conflicts of interest.
Other Alternative Investments
As a result of this lesson, you should now have a better understanding of the two primary types of investments: stock and bonds. Many types of securities and investment strategies fall into one of these two categories, but there are also numerous alternatives that might interest you if you want more complicated or specialized investments. Some of these include Options, Futures, FOREX, Gold, Real Estate, Etc.
For new investors, it is generally agreed that alternative investments are exceptionally risky for the portfolio. These are high-risk/high-reward securities that require specialized knowledge. Experts agree that new investors should focus on building a financial foundation before speculating with alternative investments.
What is an investment portfolio?
A portfolio is a combination of different investment assets mixed and matched for the purpose of achieving an investor’s goal(s). Items that are considered a part of your portfolio can include any asset you own—from real items such as art and real estate, to equities, fixed-income instruments and their cash equivalents.
A portfolio is a collection of investments, such as stocks and bonds, that you have arranged based on your goals. The mix of investments determines the risk level and expected return of the portfolio.
You are now equipped to begin your Investing Journey!
Here is a brief summary of the topics we have covered so far in this tutorial:
- Investing is a way to earn interest on your money by letting it “work” for you.
- Reinvesting your earnings allows you to take advantage of the compounding effect.
- Investors vary in the objectives they set for their investments and in the personality traits that affect their investing behavior.
- There is no single strategy that guarantees investment success.
- There are many different types of investments, each with its own advantages and disadvantages.
All of these points together comprise a foundation of knowledge that any investor should be comfortable with. However, you will do yourself no good unless you can put those concepts into practice.
We encourage you to explore different investment strategies and see what works best for you. For most people, a smart investment strategy includes saving regularly and keeping investment expenses down. Whatever you do, keep the principles we’ve discussed in mind, and never stop trying to learn more.
