When choosing where to invest your money, you must do your homework. Investors today have a wide range of investment options, including stocks, bonds, mutual funds and other investment companies, Treasury securities (including savings bonds), options, commodity futures, real estate investment trusts (REITs), variable annuities and many others. Investigate before you invest, and remember that every investment involves some degree of risk. Unlike savings vehicles, such as deposit bank accounts, most securities are not FDIC insured—even if you purchase them through your bank. Make sure you have answers to all of these questions before you invest:
How—and how quickly—can you get your money back? Getting money from a savings account in a bank can be fast and easy. Stocks and bonds can usually be sold at any time, but you could experience a loss if the value of the investment is down when you sell. Similarly, though mutual funds tend to be liquid investments, you may have to pay a substantial fee if you sell your shares before the end of a set holding period. Other investments such as limited partnerships, often restrict your ability to cash out your holdings.
What can you expect to earn on your money? While bank savings accounts, CDs and bonds generally promise a fixed return, earnings on stocks, mutual funds, futures contracts, and other securities go up and down with the market. Keep in mind that just because an investment has done well in the past is no guarantee it will do well in the future. Changes in management and economic conditions could lead to very different results.
What type of earnings can you expect? Will you get income in the form of interest, dividends or rent payments? What is the potential for the value of your investment over time? Some investments, such as stocks and real estate, have the potential for both generating earnings and growing in value.
How much risk is involved? With any investment, there is always the chance that you won’t get your money back or the earnings promised. Usually there is a trade-off between risk and reward—the higher the potential yield or return on the investment, the greater the risk. The federal government typically backs up bank savings accounts (see FDIC on p. 139), but most investment options have no such protection. U.S. Treasury securities (including savings bonds) are the sole exception to the extent that they are backed by the full and faith credit of the U.S. government. However, the returns on these securities tend to be lower over time than the returns on corporate bonds or stocks. Promises of higher returns should be a warning sign of higher risk and possible fraud.
Are your investments diversified? Some investments perform better than others in certain economic conditions. For example, when interest rates go up, bond prices tend to go down. One industry may struggle while another prospers. Putting your money in a variety of investment options can help to reduce your risk of loss.
Are there any tax advantages to a particular investment? U.S. Savings Bonds are exempt from state and local taxes. Municipal bonds are exempt from federal income tax and, sometimes, state income tax as well. For special goals, such as paying for college and retirement, tax-deferred investments are available that let you postpone or even eliminate payment of income taxes.
The following companies rate the financial condition of corporations and municipalities issuing bonds. Their ratings are available online and at many public libraries.
Standard &
Poors (www.standardandpoors.com)
Moodys
Investors Services (www.moodys.com)
Weiss Ratings
(www.weissratings.com)
For ratings of
mutual funds, consult magazines such as Kiplingers Personal Finance,
Money, Consumer Reports, Smart Money and Worth. For stocks, get a
prospectus from the company that describes the investment and provides a
history of performance over a period of years. The Securities and Exchange
Commission requires public companies to disclose financial and other
information to help investors make sound decisions. The text of these files is
available at www.FreeEDGAR.com. |