As a new investor, start by learning to compare investment alternatives to eliminate all but the best investment alternatives: those that fit you. This is personal investing 101, and there are 5 questions to ask (factors to consider) before you start investing money.
First and foremost you must know your financial objectives before you make any financial decision. What characteristics are you looking for, and what is important to you? There are 5 factors to first consider in your search for YOUR best investment alternatives: liquidity, safety, growth, income and tax advantages.
LIQUIDITY refers to how quickly and easily you can get your money back without undue costs or loss of principal. As a financial planner I always put this factor at the top of my list especially when working with a new investor. I didn’t ever want to later have to say “sorry” if they needed all or part of their money back. If your financial objective is short term in nature, you need high liquidity. If you need to save money for college expenses that will start in a couple of years or you are planning a major vacation, you will need access to your money.
Your best investment alternatives for high liquidity include bank savings accounts and money market accounts, short-term CDs, and money market funds. Eliminate alternatives like stock and long-term bond funds, real estate, and IRAs from your list of alternatives.
SAFETY is important to the new investor who does not want to accept the risk of loss, or can not afford to lose money. Safe alternatives generally pay interest, and they DO NOT fluctuate in value. Eliminate the likes of stocks, long-term bonds, real estate properties and gold from consideration if safety is your primary concern. Your best investment alternatives include U.S. Treasury securities and savings bonds, bank CDs, fixed annuities, and to a lesser degree intermediate and short-term bond funds.
GROWTH is a primary consideration for those who want their money to grow more than enough to offset the effects of inflation and taxes. If your goal is to earn a higher return, you need growth and must be willing to assume at least a moderate level of risk. As a new investor you must understand this before you decide to start investing money for growth. Remember, this is not rocket science. But also remember that without a grasp on the basics, you’ll never be comfortable as an investor.
The best investment alternatives for the new investor and for most investors: a broad spectrum of equity (stock) mutual funds. Examples include growth funds, growth and income funds, international equity funds, real estate funds, and even gold funds. Mutual funds were designed for the average or new investor.
INCOME is usually more important to the older investor, and can take the form of interest earned, dividends paid, rental income from real estate properties, or a payment from other sources. One of the most popular ways to earn a higher income than is offered in the SAFE alternatives discussed previously is by owning bond funds. These pay interest income in the form of dividends. The new investor must understand one thing in particular before he or she decides to start investing money in bond funds. They fluctuate in value and are only relatively safe. They are also one of the best investment alternatives for the average or new investor seeking higher income.
TAX ADVANTAGES often take the form of retirement plans like the IRA or 401k. Some mutual funds (like municipal bond funds) also offer tax advantages as well. To keep things simple the new investor should consider IRA accounts and 401k plans because these accounts offer tax deferral and tax write offs (traditional plans). There are also Roth plans that are tax free.
On the other hand, don’t jump on these plans if high LIQUITY is a high priority of yours. These plans are designed for long term investors putting money aside for retirement. Penalties apply for early withdrawal. Also, don’t expect to receive high income from growth investment alternatives or tax breaks from highly liquid safe alternatives. In other words, it’s all a matter of tradeoffs and making choices. There is no one single best choice that best fits all financial needs.
That’s why you always need to consider these 5 factors before you start investing money. The best and simplest way to find YOUR best investment alternatives is to start by eliminated those alternatives that simply don’t fit your needs or don’t make you feel comfortable. Next in personal investing 101 we simplify the universe of choices available to the average and new investor. All of your alternatives or options will be presented in plain simple English.