Are you ready to start investing but struggling with what to invest in? This guide walks you through some of the most common types of investments and explains why you may want to consider them.
Stocks
Stocks, also known as equities, are one of the most common types of investments. Companies will sell shares of stock to raise money. When you purchase an individual stock, you become a partial owner of that company. That means if the company makes money and grows in value so could your investment.
Many of the largest companies in the country- think Apple, Amazon, and Disney – are publicly traded stocks. ETFs and mutual funds will own a basket of stocks to diversify your portfolio. Historically, stocks have been the best hedge against inflation, averaging an annual return of 8% per year.
Exchange Traded Fund (ETF)
ETFs have become popular since their introduction in the mid-1990s. An ETF is a type of fund that than can own hundreds or thousands of stocks across various industries. They are like mutual funds, but they trade throughout the day. Due to their ease of trading and low fees, ETFs have become increasingly popular.
Mutual Funds
A mutual fund is similar to an ETF because it invests broadly in a number of companies. It can be actively or passively managed. An actively managed fund has fund managers and analysts that pick specific investments with the goal of outperforming a designated benchmark.
Actively managed mutual funds often have with high fees and lower performance than their respective benchmarks. In the US market, a study showed that 87% of all active funds underperformed their benchmark between 2005 and 2020. For this reason, I personally prefer using lower cost ETFs over an actively managed mutual fund.
Bonds
A bond is a loan that you lend to a company or government. When buying a bond, you are allowing the company or government to use your money with the promise they will pay you back with interest.
Bonds are considered a more stable investment compared to stocks because they usual provide a steady flow of income. Long term returns have historically been lower than stocks and drawdowns have been less serve. The main two reasons people own bonds is the yield and to diversify. Bonds generally dampen overall portfolio volatility when held with riskier assets such as stocks.
Certificate of Deposit (CD)
A CD is a type of bank product that you agree to loan money to the bank for a designated amount of time and interest. CDs are an extremely low risk investment, but with low risk, comes low reward. The current annual percentage yield for a 5 year CD is around 0.60%.
Annuities
Annuities are a contract between and investor and insurance company where the investor pays a lump sump that is invested with the goal of paying out a fixed income stream later. It can be purchased with a lump sum or a series of payments.
Annuities are fairly low risk, and low reward. A benefit of an annuity is it can help supplement income during retirement. The downside are the high fees and limited flexibility. Generally, they are not a good investment option for beginners looking to grow their money.
Commodities
Commodities are physical products you can invest in. The four main types are metals (gold, silver, etc), agricultural, livestock, and energy. For investors, commodities can be used as a way to diversify your portfolio. They are known to be a risky investment because their supply and demand are impacted by uncertainties that are hard to predict. For instance, political actions can change the price of oil and weather can impact agricultural production.
Options
When you purchase an option, you are betting the stock price will go up or down. It is contract to buy or sell a certain stock at a specific price and date. There are two types of options, a call and put. Options are risky because you can lose your entire premium if the stock fails to increase (or decrease in the case of a put). Retail investor should be extremely cautious before using them.
Bottom Line
There are a lot of investments to choose from. Each type of investment comes with a different level of risk and reward. Part of my job is helping individuals build a portfolio that best suits their risk tolerance, goals, and timeline. The goal is to find the right balance that fits your needs. If you have any questions, please don’t hesitate to reach out.
George Maroudas
847-550-6100
george@pmgwealth.com
Twitter @ChicagoAdvisor
Disclaimers and Sources:
Stock average return by year: Link
SPIVA: Active fund manager underperformed index Link
Marcus by Goldman Sachs: CD Yield Link
S&P Composite 1500 Index: is a stock market index of US stocks made by Standard & Poor’s. It includes all stocks in the S&P 500, S&P 400, and S&P 600. This covers approximately 90% of market capitalization of U.S. stocks.
Stock investing includes risks, including fluctuating prices and loss or principal. This information is not intended to provide specific advice or recommendations about any stock nor is it intended to be a recommendation to buy, sell or hold any stock investment. We suggest speaking with your financial professional about your situation prior to investing.
Please consult your financial advisor regarding your specific situation. The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly. All investing involves risk including loss of principal. No strategy ensures success or protects against loss. This information is not intended to be a substitute for specific individualized tax advice. The Standard & Poor’s Index is a capitalization weighted index of 500 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.
Investments in real estate may be subject to a higher degree of marker risk because of concentration in a specific industry, sector, or geographical sector. Other risks can include, but are not limited to, declines in the value of real estate, potential illiquidity, risks related to general and economic conditions, stage of development, and defaults by borrower. There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk.Treasury Inflation-Protected Securities, or TIPS, are subject to market risk and significant interest rate risk as their longer duration makes them more sensitive to price declines associated with higher interest rates.
