Why is investing important?
Investing is an important part of financial well-being. It’s how most people plan and pay for major milestones - by investing with specific goals in mind, like education expenses, buying a home, transitioning to retirement and other big achievements and transitions.
Investing works, making big-ticket expenses possible, because the money you’ve invested grows and earns more than funds kept in most savings accounts. There are lots of types of investments, and many of them involve some risk, but they're all designed to deliver higher returns than money kept in checking or savings accounts.
As a beginner's guide, let's look at some common terms, tools and investment strategies.
What is a portfolio?
Investments are typically bundled together in what’s called a “portfolio.” That’s a fancy Wall Street metaphor for the investments you've chosen, as if you kept all your investments in a notebook or portfolio folder.
You’ll review the investments in your portfolio both individually and collectively, to make sure each one is working as expected and together they’re performing to meet your goals, growing at their expected pace.
What is a mutual fund?
The most common start point for beginner investors is a mutual fund. If your employer offers a 401(k), an IRA or other retirement account, you’ve probably encountered and even chosen a mutual fund.
A mutual fund is a portfolio of investments that pools your money with other investors to purchase a selection of stocks, bonds and other securities. It’s professionally managed, meaning the stock trading and other decisions are done for you. Among investment options, mutual funds are the most widely used.
Mutual funds are ideal if you're investing for a retirement plan, because they're built to minimize fluctuations in earnings and grow more over the long term. They’re best suited for financial goals that are years down the road.
A common type of mutual fund is an index fund, also known as ETFs (or "exchange-traded funds"). Indexed funds are tied to the ups and downs of a specific part of the market, as tracked by specific indexes.
Two common indexes are the Dow Jones Index and the Standard & Poor's Index. ETFs tied to either of these would rise and fall with the companies tracked by each.
Some indexes include a broad range of stable companies. Other indexes are tied to more volatile investments, which present more risk as well as potentially higher returns.
What is risk tolerance?
Risk tolerance is your willingness to endure big swings in the market. It's your appetite for risk - how much are you willing to potentially lose in order to potentially earn more?
For example, some index funds are riskier than others, requiring a high tolerance. The stock market is filled with opportunities for both high and low risk tolerance. You've probably heard about a company's stock taking a nose dive on the market - and others with stock prices that have soared.
How much can you afford to lose without it impacting your financial security? Your tolerance will probably shift as you get older - and as you get used to how investments work.
Unlike most checking and savings accounts, most investments aren’t FDIC insured. Which means you’re at risk of losing some or all of the money you’ve invested, depending on how the investment’s value moves.
There are both upsides and downsides to risk. The more risk you’re willing to take, the more you’re likely to earn more - and the more you could lose, depending on the investment’s performance.
As you start to invest - on your own or with an advisor, or even if you’ve already started - take time to measure your tolerance for risk.
Investing in stocks.
What is diversification?
One of the best ways to boost your risk tolerance - and the potential to earn more - is to diversify your investments, keep a balanced mix of potential high-risk high earners and more reliable, low-risk investments.
Asset allocation is how you find the right balance - ensuring your money is distributed between different types of investments with different types of risk. With your assets allocated strategically, you might feel more comfortable with higher-risk investments, because another portion is safely invested in reliable, low-risk assets.
A simple way to explain it: “don’t put all your eggs in one basket.” With an investment portfolio, that means ensuring your money is invested in different tools, across different sectors and parts of the economy.
If one stock falls sharply, other stocks in different classes might not fall so hard. For example, if you put all your money in a local candle maker, but the candle maker is suddenly forced out of business, causing their stock value to tumble, you’ll lose everything. So you’d be wise to also invest in light bulb makers, ideally ones in another region of the country, as well as carpet makers or office suppliers or medical equipment manufacturers.
What are other common investments?
Securities, commodities, futures and annuities are other common investments that are often considered low-risk.
Real estate can be part of your portfolio too - another of the asset classes considered stable. Buying a home can help balance the volatility of your investment choices.
What is a brokerage account?
A brokerage account is how you access investments, working with stock brokers or financial advisors, who can purchase stocks and other investment vehicles for you. A reputable brokerage offers investment advice, explaining the past performance of investments and your potential investment returns. Charles Schwab, Fidelity and Vanguard are popular brokerage accounts.
Building and maintaining a portfolio is complex. Knowledgeable advisors can monitor your allocation and your portfolio's performance to keep you on track.
What are specialized investments?
Specialized investments provide tax advantages meant to incentivize their use. Like a 401(k) is designed for retirement, other funds are designed to supplement healthcare or education costs. Often your contributions to these funds can be tax-deductible.
These are good examples of how your personal finance goals can sometimes work better as investments. For example, if you've opened a savings fund for college, consider investing with a 529 plan instead. Your money will probably earn more than your savings account's interest rate, and each contribution will be tax-deductible.
How do FinTechs work with investments?
Independent investment tools like Robinhood, Stash or Acorns are popular self-guided alternatives. These mobile- and web-based services provide access to investments, often with robo-advisors. They're free from brokers’ traditional fee structures and the conventions of traditional advice.
How does Bright do investments?
Professional brokers and self-guided tools like Robinhood and Stash can help keep your portfolio on track.
Bright offers a third way: a new patented system built to deliver highly personalized financial services. With a Bright Plan, your investments are tailored to you and your goals, and they’re managed with insight powered by data science, a uniquely responsive, high-performance way to invest.
Bright learns about finances and your goals, then builds and manages a portfolio tailored to you. You set your own risk tolerance, and Bright keeps your portfolio balanced and diversified, always on track to meet your goals.
If you don't have it yet, download the Bright app from the App Store or Google Play. Connect your bank accounts, set your goals, and add Bright's investment tools.
Recommended Readings:
How much should I invest in stocks?
How to Choose The Right Investment for You
