If you are reading this article, it’s most likely that you want to start investing. That’s a great decision to make. Your challenge probably is you don’t know how to start; right?
In this Ultimate Beginner’s Guide to Investing, you’ll learn how to.
Before we get into it, a few things to note: the earlier you start investing the better. So if you are out of College and just got your first job, beginning your investing journey may well be the best decision you will ever make. Making money by investing is a journey. And in that journey you will come across rough parts on the road.
That rough patches are the inherent risks. Navigating those patches is actually where the work is. The third point is the first step to making a success out of investing is to get fundamental knowledge about the different investment types and an understanding of risk.
Fortunately, it’s very easy to gain this knowledge nowadays. Access to the internet has democratized knowledge. It’s no longer a big deal to learn even the most complex of things for free.
Perhaps you landed on this website through a simple Google search. That’s actually about all it takes to gain knowledge about any subject in this information age.
Now let’s dive in!
What exactly is investing?
Simple answer: Investing is the process of building wealth by making your money to work for you.
Buying things that hold or appreciate value is investing.
Basically, it involves putting some portion of your earnings in an income yielding assets; such that it multiplies to the extent you can live on the income it generates.
Thus, investing is one sure way of creating passive income.
This means that when you invest, you buy something that not only increases in value but also generates recurring income overtime.
The value of investing is not always on a straight line. It may and does fluctuate and it’s a possibility that you could get less than what you put in. However, with time and patience, it does pay off.
Saving Vs Investing: What’s the Difference?
It’s common to see many people use the term saving and investing interchangeably. As a result, a lot of people go round in circles when deciding how to grow their money.
They save thinking that they are investing. What’s the difference?
Saving
This is setting aside a portion of your income for future use. The instrument for saving money is usually the regular savings account offered by commercial banks and other financial institutions.
There are now non-bank financial technology driven companies that provide online and mobile platforms for users to automate savings.
The money you have in a savings account earns interest, is accessible and safe in some ways. The safety of saving money in a bank derives from the fact that the government through its relevant agencies guarantees a portion of the money by way of deposit insurance in the event that the bank goes under.
For instance, if a UK bank in which you have a savings account fails, you are sure to get up to 85,000 pounds of your money under the Financial Services Compensation Scheme.
In the United States the Federal Deposit Insurance Corporations insures depositors’ funds up to $250,000 and in Nigeria the Nigerian Deposit Insurance Corporation will pay you up to a maximum of NGN500,000 ($1,370), if the bank where you have your savings fails.
The draw back to savings is that the interest you earn is small and usually below inflation rate. In other words, while you may not be losing money on the face value, you are actually getting a negative return and may be lowering your purchasing power overtime.
This is why saving money cannot make you rich
Investing
On the other hand, investing enables you to put money aside over a specific period of time and get in return an amount that is higher in value and able to beat the rate of inflation. Investing allows you to accumulate wealth overtime.
You are exposed to a different kind of risk in investing and that is usually associated with the fluctuation in the market. But usually with time, your investment recovers and grows higher in value.
That’s why experts advise that you invest over the long term.
Should You Save or Invest?
Now that you know the difference, should you be saving or investing?
There’s really no straight answer. Both investing and saving have their individual advantages. And draw back too.
But the ideal from a personal financial management perspective is to start your journey by saving. This will help you to accumulate the money you need to invest.
When you first started out, it is not likely you would have enough money to buy the kind of investment you want. So it is advised that you start by saving. Once you have enough money, quickly buy the investment of your choice so that you can begin to multiply your wealth.
Personal finance experts will advise that it is helpful to create an emergency fund and save an amount that can take care of up-to six months’ living expenses before you start investing.
That way you are not persuaded to break your investment so that you can take care of living or emergency expenses. It makes a whole lot of sense. One of the major reasons why many people neither save nor invest is that unexpected expenses often destabilize their financial plans.
What Should You Be Investing In?
There are so many options out there that it can be daunting to decide on a type of investment to buy. Investment types are often categorized into traditional assets and alternative assets. The traditional asset classes are those normal investment types that you always hear about.
Things like stocks, bonds, Treasury Bills, etc.
In this Beginner’s Guide to Investing, I shall identify the common investment instruments available in the market.
Investment options is further categorized into two. These are
- Fixed Income Investment and
- Variable Income Investment
Fixed income
These investments are those that offer the investor fixed returns periodically. They are mostly money market instruments like fixed deposit, certificate of deposit, treasury bills, commercial papers, etc. Fixed income investment is usually tenured, i.e for a particular period of time, say 30 days, 60 days, 90 days,180 days up to 365 days.
They are more or less held for short time for a fixed rate of returns which is paid on agreed dates. At the expiration of the term, the investment is terminated and the capital and any unpaid interest is returned to the investor.
The challenge with fixed income investment is that rising inflation can negatively affect the true return. In some cases, the effective returns may be negative when inflation is factored in.
On the other hand, variable income investment has neither fixed tenure nor fixed returns. It is at the investor’s discretion to decide how long he wishes to hold the investment and the rate of return is usually dependent on prevailing market conditions.
Variable investment
These ones attract more return on investment but it can also be riskier because in a period of deteriorating market conditions, the investor may lose his money completely.
Variable investment classes include stocks, property investment, derivative trading etc.
Before I get specific into what type of investment you should be buying, let me tell you what you should not be investing in. It is important that you know this: many of the things we consider to be investment are actually liabilities and they are capable of making you poorer.
The golden rule is to invest in assets and be careful with liabilities. Anything that takes money out of your pocket to keep or maintain is a liability. Whereas anything that keeps money in your pocket or helps to bring more money to your pocket is a liability.
Related: Assets That Can Make You Rich
Following these rules, buying these items, as important as they may be, at some point are liabilities to you: cars and luxury items that lose value over time. Owning them are not investment.
Investments are things that add to their value over time.
Let’s now look at the different types of investments that you should be making. Analyze each of them and choose those ones that you are comfortable with.
#1. Stocks
Also known as shares, stocks is a well known asset class that is accessible to both novice and expert investors. They represent units of ownership in a business organisation. So when you buy shares, you are buying a fraction of a company and that entitles you to a fraction of the profit made by that company on a yearly basis.
Think of being a part owner of the companies that you admire: Apple, Microsoft, Facebook, Google, General Motors, etc. This is possible by simply investing in the shares of these companies.
Apart from getting a fraction of the profits which is called dividend, another way investors make money from owning stocks of companies is through the appreciation of share prices. The value of stocks do go up and down in line with the general macroeconomic conditions.
However, it has been shown by research that stocks ultimately give higher returns overtime than most asset classes.
Also Read: How to Invest In Nigeria Stock Market
The best part is, you don’t need a large amount of money to buy company stocks. And it’s not as complicated as you think.
All you need to do is approach a stock broker, open an account, fund, do your research and give your buy mandate.
It’s also much easier now to buy stocks with the many online investing platforms available. These platforms provide their users the facility to research stocks as well as buy and sell shares online via their mobile apps.
#2. Mutual Funds
With stocks, you acquire fractional ownership of a company directly. So if you want a bite in the pie of Apple, Google or Facebook, for example; you will have to allocate resources to buy the stock of each of these companies individually.
Mutual funds on the other hand provide you with the chance of buying into all these companies all at once.
How?
Mutual Fund is a collective investment scheme managed by a professional fund manager. The fund manager sells units of the fund to a pool of investors and uses the proceeds to invest in the shares of different companies. This then brings the different companies into one basket.
Thus, when you buy a unit of the fund, you are actually investing in all the companies in the basket.
Investing in mutual funds has some benefits over direct investment in stocks. It’s managed by a professional fund manager who has the responsibility for selecting stocks to invest in.
So mutual funds are very suitable for beginner investors who do not understand the intricacies involved in stock selection. for diversified investing and convenience.
There are different kinds of funds. Some focus on money market instruments (Money Market Funds), others focus on bonds (Fixed Income or Bond Funds) and yet there are funds that invest in real estates (Real Estates Investment Trust Scheme).
#3. Bonds
Bonds are special instruments through which the government or corporate institution borrow money from the public.
The Government borrows money to provide public infrastructure like roads, hospitals and schools. Companies also borrow money to buy equipment or to meet up with their daily operations cost.
Bonds are usually issued for a long term, say 2 years up to over 20 years. When you invest in a bond, the issuer promises to pay you a certain sum of money, expressed in percentage, periodically over the lifespan of the bond.
On maturity, the issuer pays you the last tranche of the coupon (interest actually) plus the capital you invested.
Bonds are generally considered to be a safe investment. This is because, for bonds issued by the government, it’s backed by sovereign promise. And as long as the state continues to exist, it will honour its financial obligations to its creditors.
Government Bonds are risk-free As a result interest payable on these bonds are usually low. In investing the less risky an instrument, the less attractive the return and the higher the risk, the higher the return.
Corporate bonds is also relatively safe because of the independent credit rating of the issuer. But it is not considered risk free. Companies do fail and the impact of poor macroeconomic conditions may cause a company to default on its obligations.
As a result, corporate bonds issuers use positive credit rating by international rating agencies like Fitch to boost investors’ confidence.
#4. Index Fund
An index fund is a type of mutual fund with a portfolio that tracks the market index.
You probably have heard about the S&P 500, Dow Jones Industrial Average (DJIA), etc. Index Funds follow the market index regardless of the conditions and historically these funds return higher than stocks and mutual funds over time.
Also called Exchange Traded Funds (It pools money from a motley of investors to buy stocks, bonds and other assets that make up a particular index. Index funds minimize risks because they track the index they invest in and these usually rise in value over time.
It is safe to say that buying into an index fund means buying the whole market. Fidelity Zero Large Cap Index, Vanguard S&P 500 ETF, SPDR S&P 500 ETF Trust, iShares Core S&P 500 ETF and Schwab S&P 500 Index Fund are some of the best index funds available in the US market.
#5. Real Estates Investment Trusts (REITS)
Real Estate Investment Trusts work like mutual funds. These are companies that specialize in pooling money from different investors to invest the same in income generating real estate or mortgage related assets.
By investing in a REITs scheme, the individual investor earns dividend and derives the benefits of having investment in real estate without owning, managing or dealing with the issues associated with owning investment properties.
#6. Real Estate
Real Estate is a very good investment anyone can make but one that few are able to. Reason: one, not too many people understand how real estate investment works and two, buying a property needs a huge capital outlay.
Real estate investment comes in different shapes: residential property, commercial property, office spaces as well as land.
If done properly, real estate is one sure way of attaining true financial freedom. There is hardly any billionaire who doesn’t have real estate assets in his portfolio.
It offers huge passive income, appreciates in value and stores value over a long time.
#7. Insurance
Many people understand insurance as simply a means of providing protection against the occurrence of unforeseen events. But there’s an investment component to insurance.
These include life insurance and annuity. And these two are important in a long term financial plan. While a life insurance policy provides benefits to the policy holder’s loved ones on the occurrence of death, annuities provide you financial succor in your old age.
Annuity may not be high-growth but they are fairly low risk and can be a good complement to retirement saving.
#8. Cryptocurrency
Cryptocurrency is virtual money which has become a new class of investment asset. There are so many of them now but bitcoin is the first and most popular.
Bitcoin investing and other types of cryptocurrencies have made a lot of people rich. You can buy these digital currency via the crypto exchanges or o peer-peer.
Here’s an article that introduces you to cryptocurrency and shows you the many ways you can make money with it.
Getting Financial Advice
There are professional people that you must come across in your investment journey. Some of these are stock brokers, investment advisers, financial advisers, accountants and lawyers.
These various professional people play different but complementary roles and you have to understand these roles and know when to buy their services, if need be.
When it comes to investing particularly, brokers and investment advisers are the two most critical and you must know when to use them.
Also Read: How to Get A Good Stockbroker In Nigeria
In seeking financial advice, you have to exercise a lot of due diligence. So many people these days parade themselves as advisers whereas they may not know better than the person seeking the advice.
And it is very important that you spend some time and resources to educate yourself. Understand, at least the basics so that you will only need to seek advice on more complicated investing matters.
A Word On Risk
There is a risk element to investing and it is very important that you understand this. Risk in this sense is the probability of losing money. And this can happen for many reasons.
Expectations do go wrong, government policies may change, and macroeconomic factors can simply go haywire and affect return permutations.
All investment risks are not equal. The higher the probable return, the higher the risk. The fundamental question you have to answer is “How much risk can I take”. Once you define your risk acceptance criteria, you are now in a position to decide on the kind of investment to make.
It pays to take calculated risks. If you do your research well, evaluate the risks critically and invest carefully, you will surely be better for it.
Finally,
As already identified in this article, investing is a journey. It involves taking sure steps at a time. The take away from this guide to beginners’ investing is that it pays to invest and that the earlier you start investing the better.
You don’t have to wait until you have so much money to invest. Start small and watch your investment grow with time.
Get some knowledge, educate yourself by reading and attending courses and where possible get professional advice from approved advisers.
Good luck.
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