Before you actually invest, it’s important to understand the basics about different types of investments.
When you invest in stocks, you’re investing in businesses. These could be small, medium, or large companies in the U.S. or around the world. Buying stock gives you part ownership in a company. That’s why you should only buy stocks in companies you believe in — and believe can do well.
Stocks are usually bought and sold in units called shares. A share’s value, or share price, rises and falls based on how much people will pay for a share. People will pay money for the stock if they think the company will be successful. If it is, its stock will increase in value. Sometimes the company will also pay its investors a dividend. That’s when the company pays the shareholders a part of its profits.
Investing in stocks can be risky because their value can change from day to day. But stocks can also have great potential for growth and total return.
A mutual fund is a professionally managed collection of money from a group of investors. Instead of deciding for yourself what stocks or bonds to buy, a mutual fund manager makes these decisions for everyone in the group — deciding what to buy or sell, and when.
Some mutual funds will be higher risk than others, and no mutual fund is a sure thing. But because the fund invests in a variety of stocks, bonds, and other products, there is usually greater potential reward than many low-risk investments, and less risk than buying individual stocks and some bonds.
Corporations, governments and municipalities issue bonds to raise funds. In return they typically repay the bond owners with interest. In this way, a bond is like a loan. When you purchase a bond, you are lending money to a corporation or to the government for a certain period of time called a term. The bond certificate is a promise from the corporation or government that they will repay you on a specific date, usually with a fixed rate of interest.
Bond terms can range from a few months to 30 years. The longer you hold your investment in bonds, the better the return — so consider bonds a long-term investment.
The main objectives of investing in bonds are current income and the potential for stability and future income.
Government bonds are low-risk because they are backed by the U.S. government. Corporate bonds, though, have a higher potential risk. You should research the company before you invest to make sure it has the ability to repay the loan.
Low-risk investments enable you to earn interest on your money while maintaining some liquidity — in other words, flexible access to your cash. The odds of losing your money through these investments are extremely low, but they have lower potential return compared to higher-risk investments like stocks.
Here are two common examples of investments that fall into the low-risk category:
Certificates of Deposit (CDs) can be opened with an initial deposit of as little as $1,000. With CDs, you agree that you won’t touch the money you deposit for a specific period of time (from a few days to a few years). Generally, the longer you keep your money in the account, the greater your rate of return.
A Money Market Deposit Account (MMDA) is a form of savings account that requires a larger balance than CDs or regular savings accounts, usually $10,000 or more. MMDA accounts offer a better interest rate than regular savings accounts, and allow you more flexible access to the funds in your account.
Many people invest in real estate, such as a home or property. One positive aspect to investing in real estate is that it usually increases in value over time without the daily ups and downs that happen in the stock market. Like stocks, you earn money when you sell real estate for more than what you paid for it. Keep in mind that it can take time to sell a home or property, and that there are costs involved in buying, selling, and owning real estate.
To learn about managing your portfolio — the collection of investments you own — see the lesson Your Portfolio.
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