The headline photo above is a sure fire way to compound your spouse's disinterest of you and not a recommended way to grow your wealth through compound interest.
So the #1 question on an investors mind is this:
"How and where should I invest my money?"
Let's get to it….
I think of it this way because if my family is spending more money that we make, the family business is operating at a loss. And what happens when a business continues to operate at a loss? It, and it's shareholders, go bankrupt. No one wants that.
The question is, where do i invest this profit...
In the world of finance, there are three main ways to invest your money.
- Equities - or stocks - are units of ownership in a corporation. You can purchase shares in these companies publicly through a stock exchange like the TSX, DOW JONES, S&P 500, etc… Every industrial country has a stock exchange by the way. When you buy or when you sell, you have to pay a commission, usually about $5-20 per trade. This is called the transaction cost. Usually once when you buy and once when you sell.
- If you want to spread your eggs among many baskets (which is often the best idea for the discerning person) you'll want to invest in several companies. You can do this through an equity Mutual Fund or Exchange Traded Fund (ETF)
- A mutual fund provides a way to invest in a broad and diversified fashion without having to buy the shares and pay transaction costs for many individual companies.
- The downside of a mutual fund is that they charge ridiculous fees compared to other investment vehicles like an ETF. Mutual funds typically charge between 1-3% annually. These fees are taken right out of the fund and most investors aren't usually aware of that.
EXCHANGE TRADED FUNDS (ETF's)
- An ETF is similar to a mutual fund with the exception that you can buy and sell ETF's exactly as you would buy and sell an individual stock. You can't typically do that with a mutual fund which you have to go through your bank or investing institution.
- Exchange Traded Funds are built to satisfy a range of investing appetites. For example, if you want to buy an ETF that strictly emulates the DOW JONES (which is made up of the 30 larges US industrial companies) then you can do that. If you want to buy a basked of companies through a single ETF that invest in the energy sector (with companies like Shell, Chevron, Exxon Mobil, etc..) then you can do that.
- ETF's rise in value as the companies they hold rise in value. If the companies pay a dividend, then the ETF will pay you a dividend
- The best part of an ETF is their very low management fees compared to mutual funds
- Typically most ETF's have a MER (Management Expense Ratio) of 0.1 to 0.8%.
- ETF's rock more than Kings of Leon for the average person, by the way
- Fixed income means that this type of investment makes a promise to return a fixed amount of dollars to you per year. They usually also return the original investment to you at a fixed future date.
- People that like fixed income are people that like having twice the seat belts and 9 air bags in their car when driving in a parking lot.
- Fixed income comes typically in two categories: Government (countries like Canada, Germany, provinces or states and even cities like Toronto and Houston) and Corporate.
- Bonds from governments and corporations, bond mutual funds, bond ETF's, term deposits and guaranteed income certificates (GIC's)
- The risk on fixed income rests in the ability of the government or corporation to deliver on the fixed promise to pay the income and pay the investment on the promised date of return. If neither of those happen, that's when you hear the world that a country or corporation has defaulted on its debt. Like Greece, or Lehman Brothers
- You can buy real estate the traditional way, with a downpayment and a large mortgage that you pay off over 25 or 30 years. Most people like to have a portion of their net worth in real estate. Sometimes people make this their largest and most overbearing asset class - which is very dangerous and less prudent than feeding your infant coca-cola from a bottle for the first 6 months of their life.
- There are options to by residential and commercial real estate and the dividends are paid in monthly rent to the investor.
- Another option to consider a Real Estate Investment Trust (called a REIT for short). It is a company that invests a pool of money to buy an office tower in a place like New York City or Chicago, a shopping mall in Connecticut or Montreal or an industrial complex in Alberta.
- There are also ETF's that hold a group of dozens of REIT companies which helps you diversify your REIT holdings
- Believe it or not, cash is a great asset class. When the prices of assets (bonds, stocks, houses) go down then cash becomes more valuable. It is always a prudent idea to have cash on hand to be what is called attack capital for when a market bargain arises to take advantage of.
- Gold is shiny, easily transportable on your neck, wrist or finger and fluctuates rather wildly in value.
- It doesn't pay you to own it but in times of chaos or when a country goes bust, it's a great way to get your money out of dodge. The people that love gold, love it a lot.
There you have it, several different asset classes to cover your ass and compound your wealth.