Understanding and Controlling Your Finances
Making an Investment
by Marshall Brain
In the previous article we
looked at a number of different options
that you might consider when attempting to invest $1,000 for a period
of 10 years. By looking at the advantages and disadvantages of these
options, it was concluded that stock mutual funds might be a good place
to put the money. Stock mutual funds have the following advantages:
- They are relatively easy to buy.
- They have the potential of a relatively high rate of return,
since the value of stocks has risen at an average rate of 10% per year
over the last 50 years.
It is generally assumed that stock mutual funds have the potential to continue
rising at an average of 10% per year. An aggressive growth fund has the
potential to do even better.
- They are easy to sell when you need the money, and can be sold at any time.
Just to be fair, they also have some disadvantages:
- If the market falls, you will lose money if you happen to need to sell at the
time of the fall.
- You generally have to wait several days or a week to get your
money out.
- Mutual funds require thought. With a savings bond you simply go down to the bank,
buy the bond,
put it in a drawer and forget about it. With a mutual fund you have to research and
pick the fund, send in the money, and watch the fund to see how it performs.
Before you invest money in a mutual fund, you have to decide if the potential
benefit of an increased rate of return outweighs the disadvantages. The advanced rate
of return can be important, but it is not guaranteed.
For example, if you invest $1,000 in a 5% CD for 10 years,
then at the end of 10 years you will have $1,640. If you invest it in a
stock mutual fund that does indeed earn an average of 10% per year over 10 years then
you will have $2,710. That is, you make over $1,000 more with the higher rate of
return. If the fund happens to earn an average of 15% per year over 10 years (as
an aggressive growth fund might), you
would have $4,460 after 10 years. That is a big difference. That is why people
consider stocks over CDs for long-term (greater than five years) investments.
On the other hand, if the market falls 20% then you will have $800 at the end of 10
years. That's one half of what you would have if you had put the money in a CD. You have to
decide, based on the facts, history and your own personaility, on the appropriate
savings vehicles and your distribution of money between CDs, stocks, bonds, and all
the rest.
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You can use the Taxed and Non-taxed Compounding Calculator
to help you calculate how much an initial investment of $1,000 (or any other amount)
will grow in both taxed and tax-free accounts. Try different interest rates to see how
the interest rate and tax rates affect your earnings. It will also help you learn
about the effects of inflation. (To run this
calculator you will need a web
browser that understands JavaScript. The later versions of NetScape,
the MS Internet Explorer, etc. all do)
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To actually invest your $1,000, you have several choices. You can go to a bank
and deposit the money in a savings account, CD or Savings Bond. You can send your
$1,000 directly to a fund family and invest it in a fund. You can send your
money to a broker like Charles Schwab. Or you can find a Financial advisor in
your area and invest through the advisor. Either way, your problems
will come in determining which fund family to choose,
and which fund in the family you prefer.
If you are just starting out, then taking this first step can be hard
to do. Here are three options:
- You can talk to a professional Financial Advisor or Investment
Manager. FAs and IMs are trained to help you to understand your options and to
match investment vehicles to your personality, budget and lifestyle.
See
The National Association of Personal
Financial Advisors or
The Institute of Certified Financial Planners for
listings of financial planners in your area.
- If you want to do a little research, you can find all sorts of fund information on the web.
If you want a large list of funds,
click here.
Read about different fund families and funds and find one that you like. Call up the fund family
and ask for an application form. Then send in your form and a check.
- You can use a large brokerage house and purchase mutual funds through it.
A good example of a brokerage company that falls into this category is
Charles Schwab. You send your money to
Schwab. Schwab places the money into a money market account. You can then
purchase mutual fund shares using the money in your money market account.
Schwab has formed an alliance with over 20 fund families. These funds are
called "OneSource" funds. You can purchase shares in these different
OneSource funds with no transaction
fees. Call Schwab, ask for an application, and return the application
with a check. The advantage
of Schwab (or a company like it) is that you can move money between funds easily,
and you can use your money market account like a bank account.
For more help in choosing funds, get a magazine like Money Magazine
or Kiplinger's. Both have monthly lists of top performing funds. You will learn
quite a bit by reading these magazines, but it may take you several months
to get used to the lingo. Persevere
and eventually these magazines begin to make sense. You start to notice patterns. You
start to notice that the names of certain funds and stocks keep popping up
over and over again. Learn these patterns and you will be well on your way to
financial understanding.
BYG Publishing, Inc.
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© 1997 BYG Publishing, Inc.
