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We all know how to spend money — Those new shoes, Netflix marathons, and daily mocha lattes aren’t free, right? And we generally know how to make money. Earn income from a job, hit the lottery, or plant a money tree (one of those, sadly, doesn’t exist).
Although most people know that they should invest, many people put off investing because they find it confusing, expensive, or unrelateable. So before you write it off, let’s go over the basics.
Why do people invest?
Most of us have a checking account and probably a savings account. While some checking accounts are interest bearing, many are not, so your money likely isn’t growing; it’s just sitting there. If you have a savings account, or even a money market account, your money is earning interest. But only about 0.06-0.12%, depending on the type of account and the amount of green (read: money) in it. That may be better than hiding your cash under your mattress. But inflation rates have outpaced bank account interest rates over the past few years. (The most recently published U.S. inflation rate was 1.6%, back on November 17). And that means you’re still losing money. Ouch!
So how can you combat inflation, grow your wealth, and make your money work for you? One method is to invest.
But what is investing?
Investing is the act of committing money to a business or endeavor with the expectation of earning a profit in return. When investing there is risk — you could lose the value of your investment. The key is to not stress too much whether prices go up or down a little from one day to the next. Investing is about goal setting over the long term.
What are my investment options?
The stock of a company is broken down into shares. This means that as a shareholder of a company, you own a portion of that company. Stock prices fluctuate often. There is risk involved.
A bond is a loan, and you’re the lender. Governments and corporations that issue bonds are borrowing funds for a defined period of time at a fixed interest rate. Because you know the time frame and interest rate, you know how much money you are going to receive in interest in addition to getting the amount you lend back, and when.
Exchange traded funds, or ETFs as all the cool kids call them, are a collection of stocks, bonds, or a mix of both stocks and bonds that track a market index (like the S&P 500 – a stock index) and provide broad diversification for your investment portfolio. Think of ETFs as big baskets of fruit, with everything from apples and oranges to kumquats and dragon fruit. Broad market exposure reduces investment risk. Simply stated, you can diversify by spreading your money across different types of investments. Some may do well while others do poorly, thus reducing the overall risk of your portfolio. Plus, ETFs have a lower average expense ratio than traditional index mutual funds, resulting in relatively higher returns.
But ETFs aren’t risk-free. The asset allocation (or amount of each fruit in the basket, in our current analogy) determines the level of risk involved. Some baskets may be mostly apples and oranges (conservative), while others mostly kumquats and dragon fruit (aggressive), and still others a more evenly mixed assortment (moderate). There’s something for everyone.
How do I get started?
There are virtually thousands of ETFs available to investors, so how do you choose? Broadly diversified funds that mirror the components of a particular stock index, such as the S&P 500, can be a sound option. The securities involved are likely to rise and fall in tandem with the stock market. Historically, the S&P 500, which includes corporate giants like Apple, Amazon and General Electric, has grown 9.65% a year on average – that’s pretty good!
Want to get into the investing game? You can invest in ETFs that provide exposure to a broad mix of global stocks, bonds, and cash. Or take a look at Blue Chips, a Vanguard ETF with holdings in nearly 300 U.S. companies across a wide range of industries (everything from technology to healthcare to consumer services and beyond). With as little as $5, you can start to build a solid foundation for your investment portfolio. Continue investing what you can afford on a regular basis and increase your financial know-how.
Interested in learning more about how to manage your money? Check out our article on how to use credit wisely here.
The following information has been provided for educational and informational purposes only and should not be considered as investment advice. Investing involves risk, including the risk of loss. ETFs may not be appropriate for all investors. To determine if these ETFs are an appropriate investment for you, carefully consider the ETF’s investment objectives, risk factors and charges and expenses before investing. This and other information can be found in the ETF’s prospectus. ETFs are subject to risks similar to those of other diversified portfolios. Although ETFs are designed to provide investment results that generally correspond to the performance of their respective underlying indices, they may not be able to exactly replicate the performance of the indices because of expenses and other factors.