The three different types of investments include:
Stocks
Stocks are equity investments, which mean that you become a
shareholder and in fact own a part of that corporation when you buy stock in a
corporation. Perhaps, your equity, or ownership in a corporation that may issue
millions of shares, is much smaller than the equity you have in real estate you
purchase.
The main reason behind buying stocks:
- Expecting
a hike in the price per share so that, you can make profits by selling
your shares in the future.
- Expecting
the stock to produce income in the form of dividends. Some stocks tend to
do one or the other, and some stocks do both.
In spite of the fact that stocks can be volatile, or change
value rather quickly within a short time, the reason behind the popularity of stocks
is because historically stocks in general have provided stronger returns than
other securities.
Determining Stock Value
The
value of stocks is volatile. A stock's price is eventually determined by what
investors are willing to pay to buy shares. The factors that can affect the value
of a stock include:
- Topline
growth, which is the company's sales or revenue growth.
- Bottom-line
growth, which is the company's earnings growth
- The
way the company is managed
- The
condition of the economy and the financial markets
- The
quality or advantage of the products or services it offers
- The specific
industry in which the company operates
Bonds
In general, as a business grows, it doesn't generate sufficient
cash internally to pay for the supplies and equipment required to keep it
growing. Due to this, most businesses have any one of two choices.
They can either
- Sell a
portion of the company to the general public by issuing additional shares
of stock
- Or
they can issue bonds.
Bonds are debt investments. A company is borrowing money
from investors when it is issuing bonds, in exchange for which it agrees to pay
them interest at set intervals for a predetermined amount of time. In reality,
it is similar to mortgage only you, the investor, are the bank.
You are lending your money, the principal you invest when
you buy a bond, to an issuer that requires cash. Most of these loans are for a particular
period of time, called the bond's term, which can range from less than one year
to 40 years or more.
You earn interest on your loan, which is the amount you
invest to purchase the bond during a bond's term, just as you do on the money you
deposit in a bank savings account.
This is the bond issuer's way of
compensating you for its use of your money. The interest is usually paid twice
a year, though it may be on a different schedule.
Usually, the interest rate is fixed when you buy the bond
and stays the same for the term, with longer-term bonds paying higher rates.
This is done to compensate you as you are lending the money for a longer period
of time. The issuer promises to pay back your principal and any remaining
interest when the bond matures at the end of its term.
Type of Bonds
Just as many people need to borrow money, companies and
governments too some need to borrow money to fund a project or to grow. Which means
that you are having different bond issuers to choose from, which includes
- The US
Treasury
- Cities
and states
- Federal,
state, and local government agencies
- Corporations
Cash Equivalents
The short-term investments on which you earn interest are
called cash equivalents, or cash investments. The interest is calculated as a
percentage of your principal, as it is with bonds, and may be compound or
simple, depending on the type of investment you make.
Types of cash investments
The four major types of cash investments are:
- Certificates
of deposit (CDs): These are federally insured bank products.
- US
Treasury bills: These are backed by the full faith and credit of the US
government. They are popularly known as T-bills.
- Bank
money market accounts: These are federally insured.
- Money
market mutual funds: These are not federally insured but seek to maintain
their value at $1 per share.
Mutual Funds
Mutual funds is type of investment, which your money is
pooled with money from other investors to buy a portfolio, or group of bonds, stocks,
or other investments.
Most mutual funds are open-end funds, which mean they in
general sell as many shares as investors want to purchase and repurchase any
shares that investors want to sell.
There are three major types or groups of mutual funds:
- Stock
funds buy shares of corporate stock. They offer diversification by
investing in a number of different companies or industries in accordance
with the fund's investment objectives.
- Money
market funds buy very short-term bonds and their loans. Money market funds
have relatively low risks, compared to other mutual funds.
- Bond
funds buy bonds issued by corporations, agencies, or governments. They are
valuable in retirement accounts to secure diversification.
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