Determining Where You Will Invest
Riswandi
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Determining Where You Will Invest
Santri Alat - Determining Where You Will Invest - There are several different types of investments, and there are many factors in determining where you should invest your funds.
Of course, determining where you will invest begins with researching the various available types of investments, determining your risk tolerance, and determining your investment style – along with your financial goals.
If you were going to purchase a new car, you would do quite a bit of research before making a final decision and a purchase. You would never consider purchasing a car that you had not fully looked over and taken for a test drive. Investing works much the same way.
You will of course learn as much about the investment as possible, and you would want to see how past investors have done as well. It’s common sense!
Learning about the stock market and investments takes a lot of time… but it is time well spent. There are numerous books and websites on the topic, and you can even take college level courses on the topic – which is what stock brokers do. With access to the Internet, you can actually play the stock market – with fake money – to get a feel for how it works.
You can make pretend investments, and see how they do. Do a search with any search engine for ‘Stock Market Games’ or ‘Stock Market Simulations.’ This is a great way to start learning about investing in the stock market.
Other types of investments – outside of the stock market – do not have simulators. You must learn about those types of investments the hard way – by reading.
As a potential investor, you should read anything you can get your hands on about investing…but start with the beginning investment books and websites first. Otherwise, you will quickly find that you are lost.
Finally, speak with a financial planner. Tell them your goals, and ask them for their suggestions – this is what they do! A good financial planner can easily help you determine where to invest your funds, and help you set up a plan to reach all of your financial goals. Many will even teach you about investing along the way – make sure you pay attention to what they are telling you!
The best way to invest your money is whichever way works best for you. To figure that out, you’ll want to consider your investing style, your budget, and your risk tolerance.
Your style
How much time do you want to put into investing your money?
The investing world has two major camps when it comes to the ways to invest money: active investing and passive investing. Both can be great ways to build wealth, as long as you focus on the long term and aren't just looking for short-term gains. But your lifestyle, budget, risk tolerance, and interests might give you a preference for one type.
Active investing
We'll start with active investing.
Active investing means taking time to research investments yourself and constructing and maintaining your portfolio on your own. In simple terms, if you plan to buy and sell individual stocks through an online broker, you're planning to be an active investor. To successfully be an active investor, you'll need three things:
- Time: Active investing requires lots of homework. You'll need to research stocks. You'll also need to perform some basic investment analysis and keep up with your investments after you buy them.
- Knowledge: All the time in the world won't help if you don't know how to analyze investments and properly research stocks. You should at least be familiar with some of the basics of how to analyze stocks before you invest in them.
- Desire: Many people simply don't want to spend hours on their investments. And since passive investments have historically produced strong returns, there's absolutely nothing wrong with this approach. As Warren Buffett has said regarding passive investing, "It isn't necessary to do extraordinary things to get extraordinary results." Active investing certainly has the potential for superior returns, but you have to want to spend the time to get it right.
Passive investing
On the other hand, passive investing is the equivalent of an airplane on autopilot as compared to one flying manually. You'll still get good results over the long run, and the effort required is far less.
In a nutshell, passive investing involves putting your money to work in investment vehicles where someone else is doing the hard work. Mutual fund investing is an example of this strategy. Or you could use a hybrid approach. For example, you could hire a financial or investment advisor -- or use a robo-advisor to construct and implement an investment strategy on your behalf.
2. Your budget
How much money do you have to invest?
You may think you need a large sum of money to start a portfolio, but you can begin investing with $100. We also have great ideas for investing $1,000.
Here's the point. The amount of money you're starting with isn't the most important thing. Instead, the big question is whether you're financially ready to invest and to invest frequently over time.
One important step to take before investing is to establish an emergency fund. This is cash set aside in a form that makes it available for quick withdrawal, such as a savings account. Most investments, whether stocks, mutual funds, or real estate, have some level of risk. You never want to find yourself forced to divest (or sell) these investments in a time of need. The emergency fund is your safety net to avoid this.
Most financial planners suggest an ideal amount for an emergency fund is enough to cover six months' worth of expenses. While this is certainly a good target, you don't need this much set aside before you can invest -- the point is that you just don't want to have to sell your investments every time you get a flat tire or have some other unforeseen expense pop up.
It's also a smart idea to get rid of any high-interest debt (like credit cards) before starting to invest. Think of it this way -- the stock market has historically produced returns of 9% to 10% annually over long periods. If you invest your money at these types of returns and simultaneously pay a 24% APR (the average in mid-2023) to your creditors, you're putting yourself in a position to lose money over the long run.
3. Your risk tolerance
How much financial risk are you willing to take?Not all investments are successful. Each type of investment has its own level of risk, but this risk is often correlated with returns.
It’s important to find a balance between maximizing the returns on your money and finding a comfortable risk level. For example, high-quality bonds, such as Treasury bonds, offer predictable returns with very low risk, but they also yield relatively low returns of around 4% to 6%. By contrast, stock returns can vary widely depending on the company and time frame. However, the overall stock market has historically produced average returns of almost 10% per year.
Even within the broad categories of stocks and bonds, there can be huge differences in risk.
For example, a Treasury bond or AAA-rated corporate bond is a very low-risk investment. However, these will likely pay relatively low interest rates. Savings accounts represent an even lower risk but offer a lower reward.
On the other hand, a high-yield bond can produce greater income but will come with a greater risk of default. In the world of stocks, the spectrum of risk between blue-chip stocks like Apple (AAPL 1.48%) and penny stocks is enormous.
One good solution for beginners is using a robo-advisor to formulate an investment plan that meets your risk tolerance and financial goals. In a nutshell, a robo-advisor is a service offered by a brokerage. It will construct and maintain a portfolio of stock- and bond-based index funds designed to maximize your return potential while keeping your risk level appropriate for your needs.