Day 6 : The basics of investing – Part 2
Most people are comfortable with cash. Like a good friend, we like having it with us. Cash is physical money (that is, coins and bills), and it’s also what most people have their first financial experiences with. Remember that bill your grandma slipped you? Cash is also a part of your assets today. If you’ve saved some, it’s probably sitting in your account, where you can take it out at any time. So it doesn’t just consist of physical money, but also finances you have access to at all times.
Certificates of deposit
Things work differently with a certificate of deposit. With a certificate of deposit, you put your money aside for a set time period and let it work for you. It works like this:
- You have savings that you currently don’t have any plans for and that would otherwise just sit in your account.
- You take this amount and open a certificate of deposit. Different banks have different terms, but the basic idea is that the longer you leave your money in it, the more interest you earn.
- Commit to a fixed term, such as two, five, or ten years. In return, you‘ll receive annual interest.
- Once you have invested the money, you can’t simply withdraw it before the time period is up.
- In an emergency, you can still access those funds. If you need it before the deadline comes around, you might be required to pay a fee or at least forgo the interest, depending on the terms you agreed to.
- Following are a few more basic terms and options for how you can invest your money.
“Security” is an umbrella term. A security corresponds to a specific value, such as a sum of money or rights to ownership. Rights can be, as an example, of a small piece of a company. Stocks, bonds, funds – all of these are securities.
Stocks, also called shares, are the division of a company’s capital into equal parts. Owners of these stocks are entitled to some portion of the profit. That’s one thing that’s so fascinating about being an investor. You have CEOs and corporate teams all around the globe working for you. Cool, right?
What’s the difference between shares and stocks?
These two terms are often used interchangeably. “Stocks” is a more generic term. “I own stocks” implies holding shares in many companies. When you say, “I own shares in company XYZ,” that refers to just that company.
Bonds are fixed-interest investments. They are based on the principle that you are loaning money to a company or to the government. These government or corporate bonds allow your money to help the government or a company to develop projects and initiatives. You earn interest on the money you’ve loaned – sometimes up to three or four percent per year. When the bonds mature after a predetermined period, you get your money back, along with interest.
Commodities comprise two main categories: natural resources (e.g., gold, gas, oil) and agricultural products (livestock and food, such as corn, wheat, coffee, and sugar). There are separate markets for commodities, and private investors can trade on them too. The actual physical commodities don’t get traded, though. Rather, there are tools in place to represent the commodities.
In this category are investments for high-net-worth individuals. They typically require an initial capital of at least 300,000 U.S. dollars (and sometimes numbers in the millions) to participate in. Examples of alternative investment opportunities are venture capital in private investment firms, hedge funds, and collectibles.
To get started, you should get comfortable with the following three points in particular:
This refers to the possibility that your investment will lose value – that is, that you will lose money on your investment. Before you get started with investing, get thinking about what is known as your risk profile. Think about how far you can push it and still sleep peacefully at night while your money is active on the global market.
You can reduce your risk with diversification. This refers to dividing your assets across different types of financial investments or asset classes. This spreads the risk out and reduces the risk of your investments. For example, it would be a risk to put all your money into a single company. Putting it into ten companies would be better – and even better yet if all of them come from different industries and geographical regions. One of the best options for diversifying your portfolio (i.e., all the assets to your name) and minimizing risk is with ETFs. You’ll learn more about ETFs in Course 3.
There are costs associated with certain investments. Keep these costs in mind, as they reduce your return. When it comes to investing, there is normally a brokerage fee and a trading fee. Always make sure you know exactly what fees are coming your way before moving forward with an investment.