So you’ve paid down your debt, are hitting your financial goals, and are on track with your savings. You might be ready to take the next step to grow your wealth — investing.
Investments, however, can be intimidating, especially if you aren’t exactly sure what you’re actually investing in. Stocks and bonds are two common investment vehicles and are great options for beginner investors. Though they are often lumped together in conversation, how they work, their risks, and their returns are very different.
In this article, we’ll break down what you need to know about investing in stocks and bonds, including the pros and cons of each and how to get started.
Before we get into the nitty-gritty of stocks and bonds, let’s go over a few things you should think about before investing.
Your financial goals
Before you start investing, it’s always important to assess your overall goals. The investment choices of someone saving up for retirement or college might look a little different than someone who is looking to earn a living with their portfolio.
Risk tolerance refers to the degree to which you can handle volatility in your investment values. Aggressive investors are said to have a high risk tolerance. This means that you are more willing to risk losing money if better results are also potentially possible. Conservative investors, on the other hand, have a low risk tolerance and favor investments that grow slowly, but steadily and with less of a potential for loss.
This is closely tied to your financial goals. If you’re investing to save up for 20 or 30 years in the future, your choices will look a lot different than if you are planning to need the money in five years.
What are stocks?
In short, stocks are ownership shares, also known as equity shares, of a corporation. When you purchase a stock, you buy a tiny slice of the company. The more stocks you purchase, the more of the company you own. By selling shares of their company, businesses raise money to continue growing.
Stock price and your success as a stockholder depends on the success of the company, general market conditions, and other factors.
Under ordinary conditions, if a company is performing well and bringing in profits, the stock's share price will increase. Similarly, if demand is high and many investors want to purchase their own piece of the company, your stock share will perform well.
Pros and Cons of Investing in Stocks
You can win big. In general, the stock market has favorable returns. According to Goldman Sachs, the average 10-year stock market return is 9.2%, with the S&P 500 index returning an even higher 13.6% annually.
You can also lose big. While most investments are a gamble, the stock market is particularly volatile. A stock's earnings can be influenced by anything from a missed profit target to a seemingly unrelated global event. Market collapses and economic downturns can cause your investments to lose value overnight.
Stocks are liquid. Stock shares are liquid, which means you can turn your shares into cash quickly at a relatively low cost.
If you need to sell for cash, you might take a loss. A stock's share price fluctuates day-to-day. If you’re in a situation where you need to dip into your investment for cash, you may be losing money instead of making it.
Investing is easy. Today, investing is more accessible than it ever has been before thanks to technology. Whether you’re using an investment app or finding an advisor to help you make the right choices, your phone and computer can be your best friend.
It’s not always free to invest. While some brokerages offer no-fee and no-commission stock investing options, it’s not the case everywhere you go. If you hire an advisor to guide your investments, expect to pay a monthly fee or commission on what you buy and sell.
How do you buy stocks?
You can invest in the stock market by opening a brokerage account. This will allow you to purchase and sell stocks. If you don’t want to personally research and decide which companies to invest in, you can hire an investment advisor to manage your portfolio for you. They will cater your stock portfolio to your risk tolerance, time horizon, and investment goals. Today, you can even opt to invest in robo-advisor accounts, which help you invest with the help of algorithms.
You can also participate in the stock market with other financial products, such as retirement investment accounts.
How do retirement accounts invest in the stock market?
There are so many ways to get a retirement account these days—investment firms, banks and credit unions, robo-advisors—that it’s difficult to give one answer to this question.
In general, your retirement account should include an investment portfolio. When you work with an investment provider, they will work with you to create a portfolio that’s based on your financial goals, your risk tolerance, and your time horizon. Depending on all three of these factors, this portfolio can include a number of different investment vehicles, including both stocks and bonds.
If your retirement account with a particular financial institution does not include investments of any kind, it’s time to evaluate if that account is working for your financial goals. As with any investment strategy, it’s smart to consult a financial advisor or other expert that can help you make strategic decisions.
What are bonds?
Bonds are a type of loan that you make to the government or a corporation. When you purchase a bond, you lend that entity money with the promise of repayment at a set later date — with interest.
Pros and Cons of Investing in Bonds
They have fixed returns. You’ll benefit from a fixed interest rate amount alongside your initial investment when your bond matures. This means you can accurately predict your return.
They yield lower returns. High potential returns aren’t associated with this type of investment. Additionally, it can take years for a bond to reach full maturity.
They are far less risky than other types of investments. Bonds are less volatile, making them a more stable investment.
They are less liquid than stocks. While government-issued bonds may be very liquid, corporate bonds tend to be less liquid.
They are universally rated. Unlike stocks, bonds are rated (from AAA to C) by credit rating agencies, which can help you choose the right one according to your risk profile.
Bond defaults can occur. Bonds rated AAA are perceived to have little risk of default, which means the issuer has a strong capacity to meet its financial obligations. Bonds with lower ratings (BB and below) however, have an increased risk of default. If a bond issuer defaults, it may affect how much you are repaid.
How do you buy bonds?
Bond purchases for government bonds can be done online through TreasuryDirect.gov or a bank, broker, or dealer. Corporate bonds can be purchased through a broker.
Bonds are also typically part of other types of investment portfolios, such as retirement accounts.
Get Started with Investing
Want to take the next step and start investing in stocks and bonds? Speak with a CFS* financial advisor to craft an investment portfolio that will help you meet your financial goals.
*Non-deposit investment products and services are offered through CUSO Financial Services, L.P. ("CFS"), a registered broker-dealer Member FINRA/SIPC and SEC Registered Investment Advisor. Products offered through CFS: are not NCUA/NCUSIF or otherwise federally insured, are not guarantees or obligations of the credit union, and may involve investment risk including possible loss of principal. Investment Representatives are registered through CFS. The Credit Union has contracted with CFS to make non-deposit investment products and services available to credit union members.
Prepared by Broadridge Investor Communication Solutions, Inc. Copyright 2018.
Talk to a CFS Financial Advisor
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