Investing is purchasing assets with the goal of increasing future income. As we already learned, an asset is anything, whether tangible or intangible that you own, which brings you money. Investing is beautiful because instead of working for money, your money works for you. based on historical performance, investing generates greater returns than a savings account. Although that comes with a greater risk of losing your money. Investing also helps protect you from inflation.
Inflation is the rate at which the general price level of goods and services increases. As prices rise, the purchasing power of $1 decreases. For example, with a 2% inflation rate, a soda that costs $1. This year will cost one dollars and two cents next year. As you can see, that same $1 doesn't go as far next year as you're not able to buy that soda. That's decreased purchasing power over the last 100 years.
The average inflation rate is 3.22%. If your money is sitting around in knowledge, generating a return that's at least equal to that you're losing purchasing power. It's important that your money grows and investing can help you do that with a little help from our friend, Mr. Compound interest to refresh your memory. Compound Interest is the addition of interest to the principal of the deposit or loan. In other words, it's interest on interest.
For example, $1,000 invested at 10% interest is $1,100. After year one, how much will you have in year two, now you have $1,100 invested at 10% interest, which gives you $1,210 a return of $210. With simple interest where interest doesn't stack up, your total after two years would be $1,200. in year two, you will again get that 10% on the original $1,000 since the interest isn't applied, that's $10 less than the compound interest in the difference gets larger as time goes on. Here's some things you need to know before you invest. There's a difference between price and value.
Your savings account is not your investment account. Every investment has some risk. The goal is to minimize that risk. diversification is key. When you invest in anything, there's a chance you can lose your principle, which is your initial investment. The point of diversification is to minimize the risk of losing money when adverse events happen.
Adverse events can happen to companies, industries, countries, and in the most extreme cases, entire economic systems. For example, let's imagine you want to start investing, you love coffee shops and invest $10,000 in three different coffee shops. I mean, these things are really booming. After four years, sales are awesome, and the returns look great. Your investment has doubled. Sweet.
Unfortunately, over the next year, a new study comes out That says coffee is bad for your health. Tea is the way to go. All three stands you invested in go out of business as they couldn't adapt your entire investment crashes and you're left with nothing. A savvy investor with a diversified portfolio would have protected against this scenario and would have some principle left to show for it. If you want to protect your investments, don't put all your eggs in one basket. As I've said before, there are plenty of different ways to invest.
In this course, we'll give you a basic understanding of these types of investments. When you purchase a stock, you purchase an ownership stake in that company. The value or selling price of the stock will go up or down depending on the market, which is the price that people are willing to buy the stock for. As a hint, stock prices usually go up when companies make lots of money. You can make money from stocks in two ways, selling the stock at a higher price than you bought it Receiving dividends. A dividend is a distribution of company profits to shareholders typically paid on a quarterly basis.
Not all companies pay dividends, those that don't choose to reinvest those profits back into the company hoping to boost the stock price higher, which is nice. It's also nice to get the cashflow benefit that dividends provide. While there are ways to go directly to the company, for the most part, you're going to need to go through a broker to buy stocks. brokers are licensed to buy and sell stocks. You can also buy stocks through brokerage applications like TD Ameritrade or Scottrade. You can buy stocks from an exchange like the New York Stock Exchange.
An exchange is a marketplace in which securities are traded in the core function is to ensure fair and orderly trading. companies must be publicly traded to be on an exchange. The largest and oldest exchange is the New York Stock Exchange. On that exchange, you have three major indexes which tracks certain types of stuff. and serve as benchmarks for how the market is performing. The Dow Jones Industrial Average is an index that lists the 30 leading industrial blue chip stocks.
A blue chip stock is the stock of a large, well established financially sound company that has operated for many years. The s&p 500 is another index, which covers market activity for the 500 largest stocks. This view is a more accurate representation of the overall market because it evaluates a greater variety of stocks. Next is the NASDAQ or the National Association of Securities Dealers automated quotations. If you hang out with someone who refers to the NASDAQ by its full name on a regular basis, it's time for new friends. The Nasdaq monitors fast moving tech companies.
Next, let's talk about index funds. an index fund is a pool of stocks or bonds that track a certain index. Some different indexes are s&p 500, total stock market, large cap, small cap, or foreign markets. Cap stands for capitalization, which is a company's stock price per share, multiplied by the number of outstanding shares. large cap is for companies over $10 billion in small cap is for companies between 300,000,002 billion dollars. index funds are designed to provide diversification to the investor.
They're also a low cost investment vehicle because they don't have to be managed as actively as a portfolio full of individual stocks or bonds. a mutual fund is a professionally managed investment fund that pulls money from many investors to purchase securities, like index funds mutual funds are designed to help diversify your portfolio. The main types of mutual funds are money market bond funds in stock funds, fund managers will make trades on your behalf to pursue peak performance. Unfortunately, that's services and free. So before investing in any mutual funds make sure to check for management fees. Similar to an index fund in ETF is a pool of stocks.
The major difference is that while index funds stay largely static ETFs are traded more like a stock. Also, unlike mutual funds, where you buy and hold for some time, you can trade in and out of ETF positions throughout the day. The benefit of ETS is the fact they're an easy way to diversify your portfolio. They have no minimum deposits, and they have no management fees. On the flip side, there are brokerage fees for every trade, so buy in bulk if possible. A bond is a security representing a loan of money from a lender to a borrower for a set time period.
Bonds pay fixed interest payments to the lender and return the principal at maturity. In other words, when you buy a bond, you're giving a company alone. Bonds are mainly used by governments and corporations to raise money So why should you buy bonds bonds provide a predictable stream of income, the principal investment is guaranteed and you can sell the bond to another investor prior to maturity. A CD is a certificate issued by the bank to a person depositing money for a specified length of time with a CD. The longer the term, the higher the interest rate. CDs are also fully insured by the bank up to $250,000.
CDs give higher interest rates and savings accounts and there is very low risk the money is secured. On the downside they lack liquidity. Early withdrawals will erase the accumulated interest. Real Estate Investing is the purchase ownership management, rental or sale of real estate for profit. Types of real estate investments include residential, commercial, retail and real estate investment trusts. Residential would include houses, townhomes and multi unit apartments and commercial would include offices and small buildings.
Retail is investing in things like malls and shopping centers and real estate investment trusts are like mutual funds that own individual properties. There are tons of different ways to make money through real estate. We'll go into more detail in an advanced course, but we'll cover the main ones here. buy and hold is a long term investment, which generates revenue from monthly rental payments and or the appreciation of the property value. In these situations, you'd need to consider becoming a landlord or hiring a management company to manage the property for you. fix and flip is a short term investment strategy where you buy property, renovate it to increase the value, sell it at a profit in reinvest.
Commercial involves renting properties to businesses or franchises like being a landlord, except for businesses. You can make lots and lots of money by doing this, but it carries higher risk than residential real estate. It should only be pursued by people with plenty of experience. A passive strategy would be investing in reads which is lending your money to a group of managers who will invest that money in real estate on your behalf, you receive the benefit of the portfolio's appreciation and income without having to worry about managing any properties. investing your money has inherent risk in the goal is to minimize that risk while maximizing your return. As you can see, there are plenty of ways to invest your money.
Whenever you do, make sure you know exactly why it's a good investment and how you can lose your investment. If you can't explain those things. Don't do it. The benefits of investing our time, higher returns than saving, beating inflation and building wealth. You're never too young or too old to start investing