Unless you’ve been hiding in a cave for most of your life, you’ve probably heard many times the phrase, “save and invest.” While the “save” part is pretty straightforward, the investing part can be a lot more complicated. If you go online and spend any time at all checking into investments, you’ll find that there’s a bewildering array available. So, how do you decide where to put your money?
First, understand that the rate of return you’ll earn on an investment is directly proportional to the amount of risk you’re willing to take. In other words, if you’re willing to take a large amount of risk, you can earn the maximum return on your money. Of course, that doesn’t make much sense for a neophyte investor. If you’re typical, you’ll want to start conservative – that is with an investment or investments that offer the least amount of risk but also the smallest rate of return. Following is a list of investment options in terms of the risk involved to help you sort things out.
1. Money market account
These accounts are very similar to checking accounts except for two major differences. First, they earn interest – although not very much – and second, you’re usually limited as to how many checks you can write during a 30-day period. However, these accounts are very safe because the Federal Deposit Insurance Corporation (FDIC) almost always insures them.
2. Certificate of deposit
CDs or certificates of deposit also offer very little risk but a very small return on investment. We checked these out several days ago where we live and found that most of them pay 1% or less APR (annual percentage rate).
3. US Treasury Bills, Notes and Bonds
The US government insures these bills. The way they work is that you buy them at a discounted rate and then get the full value of the bill when it matures – or the date where the government has agreed to repay you. Most mature in one year or less.
An annuity is a contract with a life insurance company. You make one or more payments into your annuity account and the insurance company then agrees to distribute that money plus its earnings back to you sometime in the future. These distributions continue until either you die or the end of the contract’s specified date, whichever comes first.
5. Mutual funds
A mutual fund takes the money from various investors and puts it under the management of one person. These funds come in many different flavors, such as small-company growth funds, low-risk funds, emerging markets funds or health, banking, real estate or energy funds. It’s up to you to choose which type of fund you want to invest in based on your risk tolerance and your belief as to what types of industries will perform well over the next few years.
6. Index funds
These funds are like mutual funds in that they are highly liquid and diversified. They are made up of the shares of all the companies on a particular index, such as the Dow Jones Industrial Average or the S&P 500. This means that index funds aim to track the movements of the associated index. As an example of this, if the S&P 500 goes up 2%, an S&P 500 index fund should also go up by 2%.
7. Blue chip stocks
These are stocks in the “blue chip” companies such as General Electric, IBM, Ford Motor Company and so forth. While they tend to almost always grow in value over the long term, they may have their ups and downs short term. Most people who invest in blue-chip stocks diversify – that is they invest in a number of different blue-chip companies. The following video talks about the importance of diversification and why it might make more sense to invest in mutual funds and not the stocks of specific companies.
8. High-rated municipal, corporate and zero-coupon bonds.
All of these bonds are normally rated as “limited risk.” This is because unlike stocks, they represent a loan to a city, some other municipality or a corporation. They pay interest and have different risk ratings. The safest bonds are rated AAA, while the riskiest may be called junk bonds.
9. Growth stocks and small-company stocks
These types of stocks, along with medium-rated corporate, municipal and zero-coupon bonds are considered to represent “moderate risk.” Growth stocks are those of companies that are expected to grow faster than average stocks. These are also known as “glamour stocks.” Small-company stocks are just that – the stocks of smaller companies like iRobot Corporation – which, again, are expected to grow faster than the stocks of larger, more traditional companies.
10. Futures, options and other derivatives
All three of these are investment options are fairly risky but do generate a good return on investment. This group of “higher risk” options also includes speculative stocks and mutual funds and low-rated or junk bonds. Futures are where you agree to buy some commodity at a specific price at some specific time in the future. Options are complex investments that are very speculative by nature and come with a substantial amount of risk that you would lose your money. The simple explanation of an option is that it’s a contract that gives you the right as the buyer, but not the obligation, to buy or sell some underlying asset before a certain date and at a specific price.
You’ve probably seen those commercials touting gold as an investment and as a hedge against inflation. However, there can be wild swings in the prices of gold, silver, platinum and other precious metals. As an example of this, gold was selling at $1750 an ounce in November of last year and now sells for $1300 an ounce.