Investing is defined as “the outlay of money usually for income or profit.” The idea behind investing? Put your money to work for you in something you believe will increase in value over time.
But how do you do it if you don't understand what any of the investment jargon means? And what is the best age to start investing?
These basics will put you ahead of most that are hesitating to get started due to a lack of knowledge or analysis paralysis. So today is a great day to start investing!
You may be thinking, how much money do I need to start investing? Or how do I start investing with little money? You can start investing in stocks with as little as $500-1,000. All you need to do is open an investment account (offered by financial services companies like Vanguard, Charles Schwab and Fidelity) to buy stocks and other investments to get started.
Today’s markets are largely exchanges — like the New York Stock Exchange (NYSE) — that allow us to buy and sell investments to others. Others include the NASDAQ, London Stock Exchange and many others.
There are several types of investment accounts, designed for different purposes.
Retirement accounts are for the future and include 401(k) and IRA accounts. These typically include penalties if you access them before retirement age, and the government often gives you tax breaks on them to encourage investing.
Regular investment accounts are often referred to as brokerage accounts. These aren't necessarily for retirement, so you can add or withdraw your money as you see fit. These don't have special tax benefits (unlike many retirement accounts.)
Retirement accounts, like a 401(k) or 403(b), can only be offered through your employer. They are named for the section of the Internal Revenue Code that outlines how they work.
401(k) plans can be offered by private companies. Similarly, 403(b) plans can be offered by public education employers, some non-profits and the like.
If you have one of these accounts, your employer will deduct a percentage of your salary from your paycheck every month and put it in this account. Some employers match employee contributions up to a certain amount so they're a great way to start investing.
While 401(k) plans are offered by employers, a Roth or traditional IRA is available to anyone that earns an income. This helps those that work for companies that don't provide a 401(k) benefit, as well as those who want to invest more for their retirement. You have to open this account for yourself at a qualified bank or broker, like Vanguard or Fidelity.
Traditional IRAs are funded with wages that you have already paid taxes on. However, depending on your income, you may be able to deduct your contributions from your taxes. Roth accounts are funded with money that has already been taxed, so you do not owe the government any taxes when you access it in retirement. Some people prefer Roth accounts because they like the predictably of knowing they will not be taxed in the future.
Since a stock is like purchasing a little slice of a company, many people like to analyze company information (financial performance, industry trends, competitive landscape, emerging regulations), and then buy the companies they think will win.
A caution: This is very, very difficult to do. If you are buying individual stocks, it is very challenging to consistently make money.
Mutual funds are one investment vehicle that allows us to buy many, many stocks in just one purchase. I prefer these to individual stocks because you can own hundreds of companies in each share.
ETFs are my favorite type of investment. ETF stands for Exchange-Traded Fund. Like mutual funds, ETFs allow investors to buy many companies in a single share. They are nearly identical to mutual funds, save for some technical differences (how they are traded and regulated, for example).
I like these better than individual stocks and even mutual funds because they are generally less costly to the investor and have low expense ratios.
The expense ratio is how much the company that manages the mutual fund or ETF charges you for their work.
An average expense ratio is around .6% — meaning, for every $100 you have invested, the fund rakes in 60 cents. Sounds small — but tiny fees make a meaningful difference in your wealth over the long term.
Many financial services providers offer “target-date funds” which are designed to help you save for retirement by adjusting over time. These funds buy less risky investments as the target date gets closer.
If you are planning on retiring in 30 years, you would buy the target date fund that is dated 30 years from today.
Keep an eye on the expense ratios and other fees associated with these funds. Many are modest, but I have seen some that are far higher than the average mutual fund (which is .6% industry-wide but 12% for Vanguard funds).
Investments like mutual funds and ETFs make money for investors in two basic ways.
First, the company may perform well, create profits and pay stockholders dividends from those profits as I outlined above. Dividends are a financial “thank you” for investing in the company.
If you choose to reinvest the dividends you receive and buy more shares, you are creating a powerful wealth-building cycle.
Second, you can make money by selling your stock to someone else. Then, you profit from (or lose) the difference.
The Feminist Financier is on a mission to help women build wealth and own their financial independence, by improving financial literacy and taking the mystery out of money. Ms. Financier is also a shoe addict, travel fanatic, and wine enthusiast.