B. Why Invest?
A few people may stumble into financial security. But for most people, the only way to attain
financial security is to save and invest over a long period of time. You just need to have your
money work for you. Thats investing.
There are two ways your money can work for you:
Your money earns money. Someone pays you to use your money for a period of time.
You then get your money back plus interest. Or, if you buy stock in a company that pays
dividends to shareholders, the company pays you a portion of its earnings on a regular
basis. Now your money is making an income.
You buy something with your money that could increase in value. You become an
owner of something that you hope increases in value over time. When you need your money
back, you sell it, hoping someone else will pay you more for it.
Compound interest is a key aspect of investing. With compound interest, you earn interest
on the money you save and on the interest that money earns. Over time, even a small
amount of savings can add up to big money and help you achieve your financial goals.
Sweet: If you buy a $1 candy bar every day, it adds up to $365 a year. Put that $365 into an
investment that earns 5% a year, and it would grow to $465.84 by the end of five years. By
the end of 30 years, you would have $1,577.50. Thats the power of compounding.
All investments involve some degree of risk. If you intend to purchase securities such
as stocks, bonds, or mutual funds, it's important that you understand before you invest that
you could lose some or all of your money.
Unlike deposits at FDIC-insured banks and NCUA-insured credit unions, the money you invest
in securities is not federally insured. You could lose your principal, which is the amount you've
invested. Thats true even if you purchase the securities through a bank.
The reward for taking on risk is the potential for a greater investment return. If you have a
financial goal with a long-term horizon, you may make more money by carefully investing in
higher-risk assets, such as stocks or bonds. On the other hand, investing solely in cash
investments may be appropriate for short-term financial goals. The principal concern for
individuals investing in cash equivalents is inflation risk, which is the risk that inflation will
outpace and erode returns.
C. Types of Investments
Stocks --- Perhaps the most common misperception among new investors is that stocks are
simply pieces of paper to be traded. This is simply not the case. In stock investing, trading is
a means, not an end.
A stock is an ownership interest in a company. A business is started by a person or small
group of people who put their money in. How much of the business each founder owns is a
function of how much money each invested. At this point, the company is considered
"private." Once a business reaches a certain size, the company may decide to "go public" and
sell a chunk of itself to the investing public. This is how stocks are created.
When you buy a stock, you become a business owner. Period. Over the long term, the value of
that ownership stake will rise and fall according to the success of the underlying business.
The better the business does, the more your ownership stake will be worth
Stocks are but one of many possible ways to invest your hard-earned money. Why choose
stocks instead of other options, such as bonds, rare coins, or antique sports cars? Quite
simply, the reason that savvy investors invest in stocks is that they provide the highest
potential returns. And over the long term, no other type of investment tends to perform
better.
On the downside, stocks tend to be the most volatile investments. This means that the value
of stocks can drop in the short term. Sometimes stock prices may even fall for a protracted
period. For instance, the 10-year return for the S&P 500 was slightly negative as recently as
late 2010, largely due to the 2008 financial crisis and the early 2000s tech bubble bursting.
Bad luck or bad timing can easily sink your returns, but you can minimize this by taking a
long-term investing approach.
There's also no guarantee you will actually realize any sort of positive return. If you have the
misfortune of consistently picking stocks that decline in value, you can lose money, even over
the long term!
Bonds --- A bond is an agreement on a loan between the issuer and the person buying the
bond (bondholder). The bondholder has lent a certain amount of money to a government
agency, municipality, or corporation and is given interest on the loan.
The term of a bond is given a fixed-rate at the time of issue and expires on the specified
maturity date. At that time, the issuer is responsible to pay the bondholder the face value of
the bond. Throughout the term of the loan, the issuer also pays interest to the bondholder.
The interest amount is set when the bond is issued.
Bonds can vary in term length. The can be a short as one year or as long as 30 years. Usually,
the longer the term on the bond, the better interest rate the bondholder receives.
If you choose to sell your bond before the term is up, you can, but you lose money. Its always
best to keep bonds for their full term.
Mutual Funds --- When investors decide to invest in a mutual fund, then money is put in a
pool of money from other investors to create a large portfolio so everyone benefits from
bigger profits. Most funds buy a variety of investments like stocks, bonds, or other securities.
Because there is such a variety of different investments in one mutual fund, there is not as
much of a risk. Usually if one investment has a bad return, another will make up for that loss.
To invest in a mutual fund, an investor buys shares of the fund and becomes a shareholder.
That fund makes money two ways: by earning dividends or interest on its investments and by
selling investments that have grown in price. The fund then pays out its profits to the
shareholders.
Note: This is better if you are investing for long term profits
Part I Assessment
True/False: Indicate whether the statement is True or False. If the statement is false, explain
why.
1. False____Savings accounts are ideal for long-term investments. Investing is the process of
having money make more money for you, and a savings account takes a certain amount of
your earned income and puts it aside for a short term goal.
2. __T___Investments become your income when you retire.
3. __F___Dividends are given to shareholders on savings accounts. Dividends are given to
shareholders that buy a stock in a company
4. ___F__Stocks always increase in value over time. No you hope that it increases in value
overtime.
5. _T____Investments earn compound interest.
6. __F___Investments are insured by the FDIC. The money invested in is not federally insured.
12. Why are investments considered riskier than traditional savings accounts? A savings account
is safe. A certain amount of your earned income is set aside. Its redirecting the money from
various sources on income. Investments is taking your money and putting it into something
else. It cant really be controlled because stock prices can fall. Or if you buy a stock with a
business and the business is doing badly, you will lose money. Investments also give you a
chance to gain more money with the money you already have.
Collectible
s
ADRs
Real Estate
& Property
Mutual
Funds
Description
Objective
Advantages
Disadvantages
Main Uses
Any physical
asset that
appreciates in
value overtime
because it is
rare or desired
by many.
An American
depository
receipt is a
stock that
trades in the
U.S., but
represents a
specified
number of
shares in a
foreign
corporation.
Purchasing a
house,
vacation home,
commercial
property, land,
condominiums.
and others.
Increase in
value along
with inflation.
0ffer no
income
Capital
appreciation,
inflation
protection, and
self-fulfillment.
Save
individual
investors
money by
reducing
administration
cost and
avoiding duty
on each
transaction.
Offer a good
opportunity
for capital
appreciation
as well as
income if the
company pays
dividends.
There are
different risk to
consider
because youre
working with
foreign
companies.
Diversification,
capital
appreciation,
and income.
Allows the
investor to
target his or
her objectives.
If you want
capital
appreciation
or income you
can tune it to
get what you
specifically
want.
Provides
income, capital
appreciation,
and leverage.
A large group
of people who
lump their
money
together and
give it to a
management
company to
invest it on
their behalf.
Investors
should buy
mutual funds
as a long- term
investment.
Each mutual
fund has a
different
strategy.
There are
significant risk
such as
property taxes,
maintenance
expenses,
repair costs,
and etc. Real
estate is
illiquid.
Involves more
because you
find out what
your objective
is and then
find out which
fund best suits
it.
Capital
appreciation,
provides
income, and
tax- deferred
savings.
Common
Stock
1.
2.
3.
4.
5.
Shares,
securities, or
equity
No investment
provides
better returns
at a
reasonable
risk than
common
stock.
Provide
potential for
capital
appreciation
and income
and offer
protection
against
moderate
inflation.
Capital
appreciation,
income, and
liquidity