The Three Essential Investment Types

Now, let’s start to talk about investing, starting with the three essential investment types!

Knowing your investing goal is critical because saving for something two or three years from now is different than saving for something 20 or 30 years from now. So, let’s assume that you’ve done that goal-setting work, and talk about the basic kinds of investment choices open to you.

But just a quick note before we dive in. Through this investment series of free posts my goal is to give you strategies that you can use to manage a basic investment portfolio confidently. Interested in more advanced (but easy to implement!) strategies? Please click here my friend!

A Few Words About Risk

Everything in investing comes with risk and a balancing act. As you read through this post the investment choices are presented in order from lower risk to higher risk. The higher the risk you take in investing, the higher the possibility that you could lose money, especially over the short term. On the other hand, if you invest too conservatively (without taking any risk) it can be very difficult (or impossible) to meet your long-term financial goals. So, one of the first things to keep in mind in investing is understanding your goals, your timeline, and your risk tolerance! There are also risk–management strategies that you can – and should! – use, which we’ll talk about in the future.

And one last, critical thing on risk: if someone tries to sell you a product that either “guarantees” high returns with small risk, or moderate returns with no risk, they are either kidding themselves or lying to you. Either way my advice is to thank them politely and show them the door.

The Three Essential Investment Types

Cash

There might be nothing quite as boring as cash in terms of investments. BUT cash serves some valuable purposes. Here’s a basic rundown:

Pros:

  • If you need to spend your money in a relatively short period of time (think a few months to even a couple of years), then cash or cash equivalents are a good idea.
  • Cash serves as “dry powder” (see the definition here). This is an especially powerful tool from both a financial and psychological perspective.

Cons:

  • Cash as an investment won’t make you rich
  • It’s very unlikely that it will keep up with inflation. This is a VERY big con

Bonds

A bond is a loan to a company or to a government. These loans come with various levels of quality, and for specific periods of time. In this investment you’re called the investor, and the company or government that you’re lending to is called the “issuer”. Unless something bad happens to the issuer – like bankruptcy for instance – then if you hold the bond until it matures (for the full term of the bond), you’re repaid the full amount of money that you lent to the issuer.  In the meantime most types of bonds will pay you a dividend which is like interest payments from a bank account.

$1,000 US Savings Bond

A savings bond is a type of bond available from the US Government

In addition, even if something terrible like bankruptcy does happen to the issuer, you as a lender have some level of safety regarding return of your investment. Here’s a basic rundown of a bond:

Pros:

  • There are bonds designed to keep up with inflation, which is a really good thing
  • Bonds can provide a steadying effect on your overall investment portfolio, meaning they provide a level of safety to you as an investor.
  • Bonds can provide a reliable source of income in the form of dividend payments.

Cons:

  • Bonds as an investment aren’t likely to make you rich, but there are times where bonds can have a great “upside”.
  • Most bonds won’t keep up with inflation. Another very big con

Stocks

A stock is a piece of ownership in a company, which means that you own some small piece of whatever stock you’ve invested in. Using Apple Inc. for example (you could just as easily use McDonalds, Disney, etc.) as of this writing there are just over 4.9 billion “shares” of apple stock. This means that if you own one share of Apple stock, you own around one – 4.9 billionths of the company. For your ownership, you also get a vote on the company’s direction and leadership, although a lot of other people also have votes and a lot of them have more shares than you have so they have more votes than you do.

But whatever: you own a piece of Apple!

Apple Inc. stock certificate

A blank Apple stock certificate (the company is now called Apple Inc., but this old one looks so cool!)

You can also invest internationally, which can be an important part of a diversified investment portfolio.

Stock ownership can (and has!) come with a lot of upside but it also implies taking some level of risk in how the company and its stock performs. And sometimes the company’s performance and the company’s stock performance are different. This means that a company can be doing well while its stock is doing poorly, or vice versa. Here’s a basic rundown on stocks:

Pros:

  • Stocks have done very well over time. See below for information on returns of stocks versus other investments.
  • Stocks have done well compared with inflation, especially over longer periods of time.

Cons:

  • Stocks can have the highest volatility of just about any standard type of investment (for “non-standard” see below). So, the shorter the time until you need your money, the less in stocks you might want to consider.

Relative Returns

These numbers represent the calculated returns of the three different kinds of investment choices we’ve just discussed. This looks at performance over 90 years, from January 1928 through December 2017 and assumes that your initial investment in each choice was $100.

  • Cash (using the 3-month Treasury Bill): $2,015.63
  • Bonds (using the 10-year Treasury Bond): $7,309.87
  • Stocks (using the Standard and Poor’s 500 index): $399,885.98

Yikes! A quick glance at these numbers shows that in the long run stocks WAY outperform both cash and bonds. What they don’t tell you is what any of the three choices did in any single year, or range of years within that 90 years. That’s a risk-management discussion for the another day!

Other (“non-standard”) Investments

There are plenty of other things that you can invest in, and unfortunately pretty easily. A list of just some of these include real estate, precious metals (like gold and silver), farmland or timberland. You can even invest in stocks of companies that make drones, or groups of banks in China, or stocks in Nigeria.

To be honest, I own a diversified real estate fund. But stocks in Nigeria? There might be someone who needs something like that but personally I don’t know who that is. So, as we move forward we’ll just keep it simple and focus on “standard investments”.

And I do have a few favors to ask!

-Through this investment series my goal is to give you strategies that you can use to manage a basic investment portfolio confidently. Interested in more advanced (but easy to implement!) strategies? Please click here my friend!

-If you value the insights that you receive in these free posts, please pass along the post to a friend or colleague or two, or have them contact me by clicking here.

-If you have questions or just want to chat, please schedule a 30-minute free consultation by clicking here or by visiting https://andyproctor.com/schedule-your-free-consultation/ .

Thanks so much for sticking with me on this journey. I’m truly honored.