What Are the Different Types of Investments?
Making it big in investing does not require a person to have been born by the 1960s, as much as it often feels this way. The truth is that a lot of companies have promise and fizzle out, while many others explode in value quite under the radar. The trick is to participate and diversify investments to create a better chance of catching the big fish. Once you’ve mastered basic budgeting, it’s time to get started with investing: Understanding the common types of investments is the first step.
Because savings can lose value, here are some different investment options to choose from instead to get ahead financially.
Buying stock in a company can be basic or complex, depending on the stock. Owning stock denotes the purchase of interest in the company. In essence, an investor becomes a part owner, even if that part is only 0.01 percent of the company. People buy stock in shares, which then increase or decrease in value based on a number of factors. There are essentially two forms of stock: common and preferred.
Investors can make money buying stocks, but it is also possible for investors to lose money. There really is no limit to the amount of money that can be gained. What happens with an investor’s money relates to the overall success of the company, the health of the stock market itself, and the type of stock.
Deciding to buy common or preferred stock depends on what a person hopes to get from the investment. Common stock is available with any publicly traded company. Profits from common stock may rise or fall with the company, and yields are variable. If the company offers preferred stock, investors who hold preferred stock will be guaranteed a set dividend (although there are instances in which the dividend might not be given). Preferred stocks are considered lower risk, but they may also have a lower reward compared to common stocks.
In a larger plan to diversify investments, funds are often a good way to start. Funds take the money from many investors and put it into a particular investment. Think of it like buying into a pool of lottery tickets with a more predictable rate of return. This allows individual investors to access funds they might not be able to access on their own and helps to pool the risk. As an added benefit, the fund is managed by a third-party who has greater expertise, which improves the investment returns and helps to minimize losses.
To decide on the fund that is ideal, it is important to understand how each one works. Mutual funds act like a buffer between investor and investment. The company offering the mutual fund purchases shares in stocks or bonds, and then sells its shares to people who invest in the mutual fund. The price of shares in the mutual fund may not change as much as the price of individual stocks. Exchange-traded funds (ETFs) are investor-pooled funds that try to index the price of individual shares based on the prices listed in a particular market. There are fees to manage both types of funds, but ETFs are typically lower than the fees for mutual funds.
Stocks or funds could have unlimited investment times. Bonds, on the other hand, have a specific maturity date, ranging from a few days to several decades. Although an investor can lose money purchasing bonds in a volatile market, bonds could also be the safest form of investment. Buying a bond means granting a loan to an entity for a period of time. There are many possible options for purchasing bonds, several of which are available through the U.S. government. Common bonds include:
- Treasury securities: bonds with variable maturity dates
- Savings bonds: government-backed bonds available for a low investment
- Mortgage-backed securities: bonds secured by real estate and houses
- Corporate bonds: bonds for corporations, intended for capital expenditures
- TIPS: bonds with values adjusted for inflation
- STRIPS: bonds that allow investors to trade interest on certain treasury securities
- Agency securities: bonds issued or guaranteed by government-sponsored enterprises (GSEs)
- Municipal bonds: an investment in a state, city or county
- International and emerging markets bonds: bonds offered by foreign countries and markets
The risk presented by each bond depends largely on the entity backing the funds. Some may be considered virtually risk-free, making them a fairly safe bet for new investors.
A basic understanding of the types of investments is only the beginning of an investment experience, whether you want to save up for a down payment on a home to build equity or put money in a retirement plan.
Within each category is layers of complexity, and advanced investors understand them more thoroughly as they personally interact with stocks, funds, and bonds. Varying the risk throughout an investment portfolio is key in order to quickly gain the knowledge necessary to make better investment decisions.