What Can You Invest In?Sep 04, 2020
What is investing? Duh, Melissa, I know what investing is, I wasn’t born yesterday.
It occurred to me today that not everyone thinks the same thing when “investing” is mentioned. Think about some of the ways you hear the word “investing”:
I invested in a gym membership- I want to get healthy! 💪
My car died last week; I invested in a nicer car because I can afford it now 🚙
My investment accounts are doing very well 💹
These all mean very different things, but let’s be clear: when you invest money into something, you spend money in order to make a material (read: financial) profit in the future 💲
When you are investing money in something you like or want, it’s not an investment unless it’s benefiting you financially. If you are purchasing an asset that decreases in value (like a car), it’s certainly not an investment! The item in question can benefit you in a lot of other ways- improved health, comfort, skills, convenience, relationships, etc- but it’s not an investment 😃
I do not personally find the colloquial phrase “investing in yourself” to be inappropriate. In fact, I like the idea of spending money on yourself in order to benefit in the future 😁
But the point here is to clear up confusion- while both are positive outcomes, a benefit is not an investment.
Since a lot of people use the word investment in a lot of ways, I’m happy to make sure we’ve all started off on the same page: the purpose and definition of an investment is to spend money in order to earn even more money in the future 📈
And I realized today that a lot of people think one thing about investments: it refers to investing in the stock market.
Did you know there are lots of different ways to invest?! Today we will talk about several, wrapping up tomorrow with enough information to make you dangerous 😆
Let’s talk about what they are, how common they are, how risky they are- and how potentially lucrative they are 🤑
This is what most people think of when they think “investment”- sometimes the only thing they think of!
What they are: When you buy shares of stock in a company, you (and thousands of others) own a tiny part of that company. Making or losing money on your shares of stock depends on the perceived success or failure of that company.
Usage: Common. Most retirement plans (401k, 403b, 457b, IRAs of all flavors, etc) and many other investment vehicles (like your HSA) rely on stock market investments in part or in full. But they are by no means your only option- thank goodness, as they are high risk!
Potential Risk: High. Nothing protects you from loss when you invest in stocks 🤷
Potential Reward: High. The potential upside can be quite lucrative if you have some good luck, no bad luck, or many years to invest 📈 📉
If pushed to recall an investment type that is not “stocks”, many people will then mention bonds.
What they are: When you invest in a bond, you (and thousands of others) are loaning money to a government or a company in exchange for a fixed rate of return at a future point in time.
Usage: Common. Individuals do not rely on bond investments to build wealth, but most portfolios invest a small portion in bonds to buffer against any losses from other investments. In addition, companies often invest in bonds in order to secure a safe, known-quantity stream of income over time 😊
Potential Risk: Very Low*. Bonds are guaranteed and can be relied upon.
Potential Reward: Low. While bonds are considered some of the safest investments, they do not offer a potential gain that is much over inflation.
What they are: In a mutual fund, money is invested into groups of stocks, bonds, or money market accounts. Because you’re not investing in one individual company, mutual funds allow you to diversify, which reduces your risk.
Usage: Common. If you don’t have a burning desire to invest in a particular stock/bond/etc for a particular reason, mutual funds are a great, safe(r) alternative that still allows you to grow your money over time 📈
Potential Risk: Moderate. Because mutual funds average out your gains/losses over many companies, your risk is lower.
Potential Reward: Moderate. While mutual funds reduce your risk by smoothing out potential lows, they also somewhat dilute potential gains 🤨
Ooh, this is a fun one 😁🎉
What they are: Options are contracts that are negotiated by a broker. For a fee, the broker will negotiate the right for the purchaser to buy or sell a security (stocks, bonds, mutual funds, etc) at a fixed price in the future. The exciting part about options is that the purchaser has the right, but not the obligation, to buy/sell that security 😮🤯
Example: I negotiate an option to purchase 5,000 shares of Microsoft stock for $240/share, one year from today. One year later… Microsoft stock did great! It’s worth $310/share. I’m totally exercising my contract, buying those shares at a low price, and selling them immediately at the higher price 🤑
Or… let’s say, after that 1 year time period… Microsoft stock actually fell to a measly $215/share. Well, I’m certainly not going to pay $240/share for stock that’s only worth $215/share. I haven’t made any money, but the only money I’ve lost is the fees I’ve paid to my broker to set up the contract. Whew- (almost) no losses for me in case of a recession, market volatility, company shakeup, etc 😅
Usage: Moderate. Options are enormously complicated- computers and brokers take care of the details, thank goodness- and complicated things are often avoided when more well-understood investments are so easily available 👩🏼🏫👩🏼💻
Potential Risk: It Depends. Options are often considered “high risk” because, even if you do not exercise your option, you have still paid the broker fee.
Personally, I think the actual risk level of options is Moderate. I think they are avoided not because they are high risk- but because more easily understood investments are easily available. Why would your advisor explain the complicated ins and outs of options, when they can direct you to something much easier to understand and execute? 🙄
However! There is a way to gain the upside of options investments, and also reduce your personal risk to Very Low*. You can do this by investing in Tax Free Indexed Accounts (TFIAs). With TFIAs, the company you invest with takes on all the risk. Why would such a company do that, you ask? 🤔 Read on…
Potential Reward: It Also Depends. Let’s look at how you managed your risk: if you allowed your broker/advisor to manage your options for you, you have Moderate risk (i.e., losing your broker fees) but the potential for High gain.
If you protected yourself by investing in TFIAs, you have Very Low* risk and your potential for gain is Moderate. In exchange for removing your risk, your broker will award you with gain from your options, but keeps some of that gain (past a certain “cap”, which we’ll discuss in a future Smart Money Minute) as their own reward for managing your risk. Win-win 😊
It doesn’t sound fun to “lose out” on potential reward, right?
Well, do you know what is fun? Never losing your money, no matter what happens in the economy! 😁🎉
Note that options are the only investment on this list so far where you have a substantially higher potential reward than you have risk! See why I think options are so interesting? 🤓
While I think options are interesting, I thought you might be bored silly, so let’s talk about investing in cryptocurrencies- the newest investment vehicle on the block! 🤣
What they are: Cryptocurrencies are digital currencies such as bitcoin. When you purchase cryptocurrencies, you are buying “money” that you can exchange for some, limited, digital goods and services 💳
Usage: Rare. They are high risk and complex.
Potential Risk: Very High. Cryptocurrency values are the most volatile investment possible, and are difficult to track and regulate- scams and failures of new cryptocurrencies are common in this section of the finance industry 😖
Potential Reward: High. Investors do think that cryptocurrencies are a relatively untapped market, with potential for both short-term and long-term gain.
Please note that, while fun to think about, cryptocurrencies are the only investment here where the potential risk is higher than the potential reward! 😲
We’ve so far discussed Stocks, Bonds, Mutual Funds, Options, and Cryptocurrencies. Next time, we’ll talk about Savings Accounts, Annuities, Life Insurance, Futures, Personal Investments, and more.
Your investment options are not limited to “stock market" investments! You have so much more variety available than just those. A diverse portfolio protects you against risk, and after our next Smart Money Minute, you’ll know which types of investments sound like a good fit for you, and you can ask your money person about those ❔👍
Now That’s Smart Money 🧐
Very Low* Explanation: Ethically, I cannot describe anything as “Zero” risk, because there is an extremely small- tiny- miniscule chance that the company you invest with could fail altogether. This is rare for a major company- ever heard the phrase “Too Big To Fail”?! 🤔
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