Investment Basics

When I first began researching finance and investments, the many finance websites I encountered beckoned me to "Buy Stocks Now!" through flashy advertisements. These banner, flash media and pop up advertisements sure were pretty, but they didn't explain what I was getting into. I needed a crash course in investments, not a pretty banner ad. So I took the time to figure it out on my own, and I would like to share what I found.

The Five Main Investment Options

When you talk about investing, there are five main options: bonds, capital gains, dividends, mutual funds and stocks. We go over each of these in depth in our investment definition series, but let's define them simply here, using Barron’s definition of each:

  • Bonds – “Any interest-bearing or discounted government or corporate security that obligates the issuer to pay the bondholder a specified sum of money to repay the principal amount of the loan and maturity.”
  • Capital Gains – “[The] difference between an asset’s adjusted purchase price and selling price when the difference is positive.”
  • Dividends – “[The] distribution of earnings to shareholders, prorated by class of security and paid in the form of money, stock, scrip, or (rarely) company products or property.”
  • Mutual Funds – “Raises money from shareholders and invests it in stocks, bonds, options, futures, currencies, or money market securities.”
  • Stocks – “Ownership of a corporation’s earnings and assets.”

If you’re like most people (myself included!), you probably just skimmed the list. C'mon, you say, those definitions are boring! I (not-so-secretly) agree, but those definitions are the foundation for your investment journey. So take another gander or two at them. I guarantee that if you can juggle paying bills with changing out a load of laundry, cooking dinner, and making sense of the jibber-jabber babies, these finance definitions will be a cake walk.

The Risks and Rewards of Each

OK, once you have a grip on the definitions, you must figure out the risks and rewards of each investment. The trick here is to determine the balance needed between each of your investments: how much risk are you willing and able to handle for a potential reward? Just remember: the greater the potential reward, the higher the risk.

This is where the idea of diversifying your portfolio comes in. Diversifying simply means varying the types of investments you own. This variance helps you to balance your risks with your potential rewards.

Additionally, in the world of investment ideas, there is a 100-age rule that may help you determine where you should aim your portfolio of investments on the risk-reward scale. Basically, the rule suggests that those close to retirement should choose low-risk investments while those just beginning a financial journey can choose higher-risk investments.

Now that we have a crash course in investment basics under our belts, we can look at some more in-depth definitions. Join us as we delve into each definition in our "Finance Definitions" series!

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Anonymous's picture

Ravi Gupta wrote:

Tue, 04/19/2011 - 12:58 Comment #: 1

Great article! I agree with you that diversification is key. In the end everything has fluctations and generally when one thing goes up another goes down and hopefully you'll average a positive return.
On a side note I hate those flashy stock banners.

-Ravi Gupta

Jessica Schmeidler's picture

Jessica Schmeidler wrote:

Tue, 04/19/2011 - 13:07 Comment #: 2

Absolutely, Ravi! If there was a sure deal in investing, everyone would be riding it. In reality, though, there are not sure deals, and that's why we have to spread out our risks.

I can't say I entirely disagree with you regarding the stock banners, by the way. :)

Anonymous's picture

jeff @ Sustainable life blog wrote:

Tue, 04/19/2011 - 14:20 Comment #: 3

Great work. I think you're right - diversification is key for any strategy. I think that once I get out of debt, i'll look into dividend producing stocks. (and other investments)

Jessica Schmeidler's picture

Jessica Schmeidler wrote:

Tue, 04/19/2011 - 19:54 Comment #: 4

Sounds like a great plan. I'll be watching your blog's status bars more now. Hehe

Anonymous's picture

Women and Finances: Getting Started Budgeting and Investing wrote:

Wed, 01/18/2012 - 21:15 Comment #: 5

[...] an introduction to the five main ways to invest: bonds, capital gains, dividends, mutual funds and [...]

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