Types of Investments: Where to Put Your Cash?
In this guide, we will highlight the different types of investment options you have available to put your cash into in order to grow your wealth, fend off inflation, and help you achieve financial goals like retirement saving goals.
The quick list of popular types of investments include:
- Savings Accounts
- Certificates of Deposit
- Money Market Accounts
- Mutual Funds
- Index Funds
- Real Estate Investment Trusts (REITs)
- Real Estate Properties
Savings accounts at banks or credit unions are generally risk free. The only exception is if you have over $250,000 in a savings account, then your money could be at risk if a run on the bank were to happen.
The FDIC insures up to the first $250,000 of your savings account so you can feel safe putting your money into a bank account and leaving it sit.
Savings accounts offer low interest rates to incentivize you to lend your money to the bank rather than keep it at home as cash.
Certificates of Deposit
CD’s offer better interest rates than a typical savings account but it comes with the cost of having your money locked up for a period of time, not being able to withdraw it like you would in a savings account.
A Certificate of deposit is an investment product offered by banks where you let them borrow your money for a low interest rate for a certain period of time.
They have CD’s as short as 1 month and can span up to several years. Usually the longer the length of the CD, the higher the interest rate offered by the bank.
Money Market Accounts
This type of savings account is a hybrid between a checking and savings account. You can still do monthly debit transactions like a checking account to pay for expenses, bills, etc. but at a limit of 6 per month or statement period.
Money Market accounts offer higher interest rates typically than savings and checking accounts. Online money market accounts like Ally or Citibank have offered as high as 2% APR rates for saving money. This is much higher than typical saving rates of 0.25% – 0.75% at most banks.
Bonds are loans that companies, governments, and people make to raise capital for projects or to finance business operations. They offer a lower returns historically than stocks and real estate but higher returns than savings accounts.
Bonds carry risk, however, because the borrower may default on their payments. Bonds are rated with different risk levels.
Governments like the U.S. have a lower yield due to a lower level of risk of defaulting. A company like Netflix, Apple, Amazon or Facebook may have a higher risk and therefore offer higher return yields on their bonds to incentivize investors to purchase bonds from them.
Stocks have historically been a great place for investors to put their cash, with an average annual compounded return of 7% to 8%.
Shares of stocks can be purchased through stock brokers and represent a slice of the companies ownership. In exchange for owning a small portion of a company (through its stock), you get access to earnings the company generates in the form of a dividend payment.
If a company doesn’t offer dividends, investors typically benefit from higher stock price values as those earnings get re-invested into the company rather than paid out as distributions to investors.
Investors like Warren Buffet have proven you can get very wealthy off of investing in the stock market if you buy and hold for long term periods rather than make short term trades.
Mutual funds are baskets of stocks where many stocks of different companies are pooled together in one fund. The asset manager who oversees the mutual fund, collects pools of money from many different investors who buy into the fund and uses these funds to purchase a variety of stocks.
This adds diversification so that investors aren’t dependent on the success of one company. Should one company struggle, the other companies in the mutual fund will balance things out and help investors maintain or grow their wealth as opposed to losing it on one company.
Index funds are known as passive investments because they require less management and thus are cheaper to run than mutual funds which have many overhead expenses (salaries, fees, etc.).
Index funds simply mirror market indexes like the SP 500 or the Dow Jones Industrial Average. Index funds pool investor capital together and use this money to buy the stocks and assets that make up the index they are trying to copy / mirror.
These are attractive to passive investors who want to purchase mutual funds but at a lower cost since index funds typically have lower fees.
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Real Estate Investment Trusts (REITs)
Similar to index and mutual funds for stocks, REIT’s are a way of allowing people to buy access to a portfolio of investment properties. It’s a way to diversify and own a share of many different investment properties rather than buying physical real estate yourself.
You also get the benefit of letting the REIT manage and run the investment properties, making it hands off, low stress investing, compared to a landlord who has to manage properties himself.
REITs are required by law to pay out a high percentage of their earnings as a dividend to all its investors. Therefore REITs typically yield bigger dividends than most stocks do.
Real Estate Properties
Buying actual physical real estate is another great way build wealth over time. Most homeowners build wealth simply by owning their home they live in and values inflating over time as they live there.
You can also purchase investment property to use as a rental income source or to fix up and resell like you see on house flipping TV shows.
Real estate, unlike stocks, has expenses in the form of property taxes and insurance as well as expenses to maintain the property (new roof), and utilities.
This can make it more risky if you plan to just buy land and sit on it. Usually, you’ll want to rent out your property so the rent can cover the expenses of owning the real estate and still put extra cash profit into your bank account.
Or if you plan to fix and flip, then you’ll want to make sure you buy the property at a low enough price to leave room for operating costs, renovation costs, and closing costs, plus profit.
Gold is an asset many Americans and people around the world invest in when they worry about the decline of assets like bonds and stocks. Gold has held its value over the years and can serve as a hedge against inflation. When the dollar becomes worth less, gold tends to be worth more and hold its value.
A more recent investment option people are turning to is Bitcoin. This cryptocurrency is a digital currency that rides on the back of blockchain technology, which is being used now by banks and financial payment institutions to secure transaction data.
Bitcoin made its historic run from less than $100 to over $20,000 in 2017 turning many holders into wealthy millionaires, but the ensuing collapse in price back to $3,000 also saw many investors lose over 80% of their investment.
It’s a high risk investment with high reward when things are good but can lead to larger losses as well.
Artwork / Wine
Artwork is a more unique, less liquid investment that can yield high returns over time. Art collectors and investors have paid millions of dollars for a single piece of art. It’s an interesting industry to learn more about in addition to investing in wine and different types / ages of wine.
The Pros & Cons of Your Investment Options
By understanding the following investment strategies you can decide how to diversify your retirement portfolio accordingly. For the purpose of this section we will only focus on the Real Estate Investing, Stock Market Investing, REIT’s, CDs, and Bonds
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- Tax advantages: write offs for depreciation and expenses, shielding from FICA taxes, deferral from capital gains taxes
- Low risk: low volatility and slow where you can see markets changing and have time to get in or out of investments. Home insurance protects you from complete loss. Other investments may not protect you from complete loss.
- Strong returns: 3 sources of income and a long term upward appreciation trend due to the population increasing and less real estate available
- Illiquid: can’t get in and out as quick as other investments
- Higher transaction costs usually
- Liquid asset you can get in and out of quickly
- Stock market has gone up long term, hedging against inflation.
- Very volatile, High risk as Markets are subject to severe short term fluctuations
- Market crashes are possible as seen in 2008-2009
- Investments are not insured if market crashes so you lose everything
- Influenced by many factors: Terrorism and world political situations, fraud and bankruptcy, insider trading, etc
- Double taxation of earnings
For people who want to invest in real estate but don’t want the responsibility and headaches of handling tenants, Real Estate Investment Trusts (REIT’s) are the way to go. Think of a REIT as a mix between investing in stocks and real estate. These real estate firms raise capital by selling shares to the public that they can then go spend on real estate deals. A share of the profits goes to the investors holding shares in the form of dividends.
- REIT stocks can appreciate
- Pays higher dividends than other stocks usually
- Passive real estate ownership
- Liquid unlike normal real estate since this investment is a stock
- Returns aren’t as good as if you owned the property yourself
- Stock price could fall and your money isn’t insured
- No leverage
- Low risk returns
- Dependent on interest rates
- Inflation risk
- Mediocre returns
Also known as CDs, certificate deposits are investments where you lend your money to the bank for a fixed interest rate that is usually higher than if you left it in your bank account. Since you’re locking up your money anywhere from 1 month to several years, CDs are generally an illiquid investment.
CDs used to be a good investment but with today’s low interest rates it’s tough to keep up with inflation and you may see better returns using other investment options.
Overall, investment returns vary by risk. You’ll find high returns in real estate and the stock market. I personally enjoy real estate investing for the control factor as I get to choose my tenant and how much I spend to do the rehab budget when I first buy the property. Other things are out of my control but I feel I can be in control of my real estate purchases and find properties with high returns.
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