This week we have a guest post from Andrew Altman, Editor-in-Chief over at slickbucks.com. SlickBucks seeks to help new investors by reviewing financial products and brokerages. You can also find Andrew on Facebook and Twitter. Over to you Andrew…
If you ever hope to achieve a truly fulfilling retirement, investing is critical. Financial advisers don’t just say things like “you must invest in order to retire” because they want your business; it’s actually true!
Unfortunately, investing seems to be a nebulous and confusing world to many. Instead of investing they just keep putting it all off because they want to learn or succeed first.
If that is you, read on, as we discuss investing in a very simple way that will make it a little easier to get started.
Buying Stock = Owning a Piece of a Company
Let’s suppose for a minute that you have a friend who has a successful business. He says to you, “I need to buy some new equipment for my business, but I don’t have the cash on hand right now to do it. If you will give me the money I need to expand, I will pay you a percentage of my profits moving forward.”
Assuming that your friend has a good business history and you have the money on hand, you would do it, wouldn’t you?
Purchasing stock in a company is basically the same thing. When a company issues stock for the first time, they generally are making a promise to investors that they will use the money to generate growth/revenue. Then they will pay investors a percentage of that growth in the year in what is called a “dividend”.
Ownership Comes with Rights
Investing in stock doesn’t just allow you to earn dividends (assuming that the company pays a dividend); it also allows you to vote on important company decisions.
Every share of common stock that you own entitles you to a single vote on important company issues like; determining who is going to manage the company, whether the company should make major changes to strategies it is seeking to implement and other items.
Difficulties of Investing On Your Own
With that said, no one ever said that investing was easy. In fact, you may already know that investing can be incredibly complex…that could be the reason why you are reading this article!
After all, how do you know which companies are good companies to invest in? And, permitting that you know which ones are good ones, how do you know that it is the right time to invest in those companies? You see, even the best companies struggle when our economy hits rough times.
With seemingly endless variables at play, there’s no doubt that investing on your own can be an incredibly difficult undertaking to accomplish successfully. It is so difficult that even some of the brightest minds struggle to be successful investors.
Thankfully, mutual funds have served to take some of the personal responsibility for investing off of the shoulders of your average Joe Blo investor (i.e. almost everyone).
What is a Mutual Fund?
The premise of a mutual fund is actually a fairly simple one: a mutual fund company creates something called a Prospectus that tells investors what a certain mutual fund is going to invest in. Then, the mutual fund company hires a mutual fund manager who attempts to do what the prospectus said that he would do.
For example, you could encounter a mutual fund called the “US Large-Cap Mutual Fund”. This fund, per its name, would only invest in companies that are “large capitalization”. This is a fancy way of saying that the company’s net market value is $10 billion dollars or more.
If a person bought a share of this mutual fund, they would actually be gaining exposure to all of the investments that the mutual fund owned. Conversely, if you purchase a single stock you are only exposed to that particular stock.
As a result, if that stock goes up in value then you enjoy ALL of the benefits, but if that stock goes down, you experience ALL of the horrors as well. By being exposed to multiple investments through the use of mutual funds, you lessen your risk since the positives and negatives of different investments will serve to even each other out.
Why Mutual Funds Can Be a Good Option for Some People
If you have neither the time nor willingness to learn to invest, then it is quite possible that buying mutual funds could be a good option for you. You could simply set up recurring investments to go into a fund, or set of funds, that you liked and that would keep you from attempting to time the market or needing to learn a whole lot.
Still, there are risks present in mutual funds that you should be aware of before you begin investing in them.
Firstly, some mutual funds can charge very high fees. These expense fees are based on how many times the mutual fund buys and sells investments during the course of a year, as well as the rate that the company thinks investors should have to pay the manager of a specific mutual fund.
Even if you don’t want to learn a lot about your investments, check the associated expense fees as they will directly impact your earnings over time.
Secondly, mutual funds may have tax implications that many people don’t ever consider. Most mutual funds create tax burdens through their internal buying and selling. These tax burdens are usually distributed among investors.
**Note from Ms Money Maximiser: UK Investors investing through a Stocks & Shares ISA can do so tax free – find out more here.
Deciding What’s Best For Your Personal Situation
Mutual funds can be a great investment for many novice investors. There are often even better options available as you learn more about investing. If your heart desires to try out stock investing, there are several platforms that make the process seamless.
Regardless, please consult with a personal financial adviser to come up with a strategic financial plan. This important step in your journey will help provide some protection from investing pitfalls and greater peace of mind.
How did you start your investing journey? Did you go for stocks or funds? Yet to invest, let us know what’s holding you back!