There are many ways to invest your money; the most common types of investments are mutual funds, stocks and bonds.
The investments you choose and how much you allocate to each will greatly depend on your individual risk profile.
A financial advisor can help you design an investment strategy that takes all your assets and financial goals into account.
Perhaps you’ve heard that investing can be a great way to grow your money over time. But when you’re just getting started, understanding all the lingo and investment options can feel overwhelming.
We’ll break down some of the words you’re likely to hear and look at some common types of investments, so you can feel more confident getting started.
What is an investment?
An investment is any asset that you purchase with the intention of generating a return on your money, typically in the form of income, an increase in value or both. Anything with the potential to increase in value over time, whether in the short or long term, can be considered an investment.
What are some different types of investments?
You may hear people talking about investing in things like wine, art or other assets. But typically, when people are looking to grow their money for future goals, they start by looking at more traditional investments like stocks, bonds and mutual funds.
Traditional investments include the following:
A stock is a financial instrument that represents partial ownership of a company. When you purchase shares of a company’s stock, you are becoming a partial owner of the company, which entitles you to enjoy the company’s success and profits. However, if the company does not perform as well, it’s possible the stock will lose value.
Investors can make money with stocks either by selling the stock for more than they paid for it (if the price goes up) or by receiving periodic distributions from the company in the form of dividends.
Investing in stocks can be risky, as there is no guarantee that a business will be successful or that the share price will go up.
A bond is essentially a loan that you (the bondholder) make to a bond issuer. Bonds can be issued by businesses as well as different government entities (such as the U.S. Treasury, federal agencies and municipalities).
Bonds work just like any other loan: When you hold a bond, you will receive regular interest payments from the bond’s issuer, according to the terms of the bond. Once the bond matures, you will get your initial investment back. For this reason, bonds are often referred to as fixed-income investments.
If you decide that you do not wish to hold a bond until maturity, you can sell it on the open bond market. However, the value of bonds on the secondary market can fluctuate.
While bonds are considered a less risky investment compared to stocks, they still carry some risk: Primarily, that the bond issuer might default on its obligations. Risk varies with distinct types of bonds, so it’s important to understand how each type of bond works and what role it may play in your portfolio.
Selecting individual stocks or bonds to invest in can be time consuming and difficult to manage for someone who may not have the skills and expertise necessary to choose individual investments. This is where funds—like mutual funds—can be helpful.
A mutual fund holds multiple stocks, bonds or other investments. It’s a way to make one investment and be instantly diversified, which makes funds generally less risky (compared to selecting individual stocks or bonds).
Mutual funds tend to be actively managed, meaning their holdings are periodically adjusted depending on the fund’s goals and analysis of the market. Mutual funds can be built in many different ways and tend to carry higher fees compared to other types of funds.
Exchange-traded funds (ETFs)
An ETF is a collection of securities (stocks, bonds, commodities, funds) that is traded in a single transaction, similar to a mutual fund. However, unlike mutual funds, they’re traded throughout the day on an exchange, like a stock. (A mutual fund can only be traded once per day at the end of the trading day.)
Index funds track an underlying index, such as the S&P 500. These funds are passively managed and therefore typically carry lower fees. Since you can’t actually invest in the Dow or S&P 500 (indexes you probably hear quoted frequently), index funds are as close to “investing in the market” as most people can get as they are typically designed to mirror indexes like the Dow or S&P.
Certificates of Deposit (CDs)
Certificates of deposit (CDs), offered by banks, are designed to provide an investor with a low-risk way of generating fixed income.
CDs can be thought of as something like a contract in which you agree to keep your money deposited with a bank for a certain length of time, and they pay you a higher interest rate than you may find with a traditional savings account. Common CD terms are three months, six months, one year, three years or five years.
CDs are FDIC insured, essentially eliminating the risk that you would ever lose your principal (up to a certain amount). However, returns on a CD may or may not keep up with the pace of inflation, which might eat away at your buying power over time. Additionally, if for whatever reason you need to access your money before the CD matures, you will typically pay a fee in the form of forfeited interest.
Most new investors stick to stocks and bonds (usually purchased through funds), but as your investment knowledge grows over time, it’s not uncommon to look to include these types of investments in your portfolio, too:
Investing in residential or commercial real estate is another investment option that comes with a high risk and the potential of a high reward, largely because it's reliant on the performance of the housing market, which can be unpredictable. Real estate investment trusts (REITs), companies that own income-generating real estate, are another way to get involved in the real estate market.
Investing in commodities is one unique way to diversify a portfolio. Commodities are tangible goods that you can invest in like oil, gold and precious metals.
Alternative investments can offer investors numerous benefits, including the potential for dramatic gains. However, it is important to understand that this potential comes with significant risk. Alternative investments are not suitable for all investors. Investors interested in including alternative investments in their portfolios should carefully consider the role that these investments will play in the context of their greater portfolio and be mindful of the amount of the risk they’re taking on. Another thing to keep in mind—unlike traditional investments, alternative investments may be less liquid and harder to convert into cash.
Some alternative investment options include:
A derivative is an often complex type of investment that includes options, futures and swaps that are typically based on the future price of an investment.
Private equity is similar in concept to a stock. But while stock is purchased on the market in a publicly traded company, private equity is ownership in a company that is purchased in a private, off-market transaction.
Hedge funds are highly complicated funds that have very high investment minimums and are targeted at wealthier, more experienced investors. Hedge funds use strategies that can lead to larger returns than more traditional approaches, however, these strategies also increase the risk of losses.
Like commodities, collectibles are real assets that have value that can increase (or decrease) over time. Investing collectibles takes a degree of research, however, as you’ve got to be up to speed on which items are more valuable and able to earn more than others.
In recent years, more and more people have started purchasing digital assets like cryptocurrencies and non-fungible tokens (NFTs). While there has been a lot of excitement around many of these assets recently (and some of them have seen huge price fluctuations), the reality is that these assets are in their infancy from an investing perspective, which makes it hard for professional investors to determine their true value. As such financial advisors typically view these as highly speculative investments.
How to buy and sell different types of investments
To purchase traditional investments, you must open an investment account. Often, this will take the form of a personal brokerage account. Other types of accounts that allow you to purchase investments include 401(k)s, IRAs, 529 college savings plan, and custodial accounts.
For alternative investments, you may need to open an account specifically dedicated to holding such investments or purchase the assets on the open market. Access to alternatives may also be restricted to investors who meet specific suitability and best interest requirements, including minimum assets and net-worth standards. Financial advisors and wealth managers can also often help you incorporate alternative investments into your portfolio.
How much money do I need to start investing?
It’s possible to start investing with any amount of money. Whether you start contributing to your 401(k), join the stock market or open an IRA, investing is all about putting money away in the hopes that it’ll grow and help you meet future financial goals.
Though there is no magic number you need to begin investing, you’ll want to—at minimum—make sure that you’re in a good position to start investing. Having a strategy for managing debt, having a healthy emergency fund and making sure you have a monthly budget that covers your spending are good habits to have in place before starting to invest.
What percent of my paycheck should I invest?
How much you’ll want to invest will depend on how much you want for the future and what your monthly budget can tolerate. But generally speaking, you’ll want to try to invest about 10 to 20 percent of your paycheck. The majority of this will likely go into a retirement savings account, but depending on your situation, there could be other investments that make sense for your financial goals.
What type of investment is best for beginners?
As a new investor, your first step should probably be consulting with a financial advisor. An advisor can look at your whole financial situation and make recommendations that match your financial goals. They’ll typically also help make sure that you’ve diversified your investments to lower the risk that you’ll lose money.
Managing your investments
Different types of investments may help you reach different goals, and there are other financial options that can work with your investments to help you reach your financial goals while also helping to protect the wealth you’re building.
That’s where a Northwestern Mutual financial advisor can help. An advisor can get to know you, your goals and your values to help you design a financial plan and investment strategy that balances staying on track for future goals with living your life today. Getting help to create a plan and manage your investments can lessen worries about finances and give you more time to do what you enjoy today and in the future.
All investments carry some level of risk including the potential loss of all money invested. No investment strategy can guarantee a profit or protect against loss.
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