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When you reach the point in your business or career where you can finally save some money, your next challenge will be figuring out how to invest it. Maintaining a diverse portfolio cushions your savings by holding a variety of assets that go up when others go down. Over time, holding several different basic asset classes to build your investment portfolio is a wise financial strategy.
Cash and Cash Equivalents
Savings accounts and money market funds are highly “liquid” investments you can rely on when you need money. Cash grows by earning interest. While inflation and low interest rates can affect the purchasing power and growth potential of cash, a rule of thumb is to keep at least 6 months of living expenses (and from what we’ve learned from the coronavirus pandemic, probably more) in cash.
Stocks represent shares of ownership in a publicly-traded company. A diversified portfolio will contain mutual or index funds, exchange-traded funds (ETFs), and/or individual stock investments. Funds have different investment philosophies and goals – some invest for growth, others for value, and some for a blend of growth, value, and income.
Stocks of successful, mature companies usually pay dividends to shareholders, and funds may pay dividends and/or distribute capital gains, which is an amount representing your percentage share of the increased value of fund holdings.
Risk averse investors stick to established companies with long histories of paying dividends, while those who are willing to risk losing their entire investment may take a chance on speculative start-ups, which tend to soar but also sometimes crash and burn.
When you buy a bond from a government or a corporation, you’re lending them money while they pay you interest. Bonds are considered conservative investments that provide steady, if not spectacular, income. Bonds come in different maturities (the period you receive interest until the principal comes back to you – 2, 5, 10, 20 or 30 years, for example) and different ratings of how risky or reliable their issuers are. “Junk bonds” pay higher interest rates because their purchasers take on a greater risk that the issuer will go under.
Real Estate and Other Tangible Assets
While real estate investments can take the form of mutual funds or real estate investment trusts (REITs) purchased through brokerage houses, tangible real estate investments include your home and any second homes you may own as investments to generate rental income, as well as commercial real estate or vacant land.
In times of uncertainty, investors often turn toward tangible commodities like gold and other precious metals, either through funds that invest in these assets or by holding them directly.
Experienced investors include the basic asset classes in a diversified portfolio, and shift the percentage invested in various asset values over time as their risk tolerance and proximity to retirement change. Consult a licensed, professional financial advisor to develop an investment plan that helps you reach your goals.