There are various types of investing vehicles. How is an investor to chose which ones to use? The investor should decide the investment vehicles that are best suited for their risk tolerance. An investor can choose from these types of vehicles.
(1) Savings and Cash Instruments
- High Interest Savings accounts
- GICs ( known as CD's in the United States
- Precious Metals.
(2) Stocks, Bonds, or Mutual Funds
(3) Real Estate
Savings and Cash instruments
An high interest savings account basically pays interest of roughly under 2 percent. With interest rates so low this is basically below the rate of inflation. I currently use a high interest savings account for my savings and emergency fund. I want to be able to access the money immediately if need be. The interest that is paid by the investor is taxed at your marginal rate.
A GIC, or Guaranteed Investment Certificate, pays slightly more interest than an high interest savings account. The down side is that the money is locked in until expiration The interest on a GIC is taxed at the investor's marginal rate.
Precious metals such as gold and silver do not pay any yield. The only way for an investor to make money is to sell the precious metals at a higher price than what was initially paid for.
Stocks, Bonds and Mutual Funds
A share of stock represents ownership in a company. The ratio of the number of shares owed by and investor to the amount of shares outstanding represent the investor's percent ownership of the company. Owning shares of stock means an investor owns a partial ownership of company and its assets. The investor (ownership of common stock ) also gets to vote on some matters regarding the company such as election of board of directors.
If a company makes a profit, the company must decide on what to do with the cash. The cash can be retained and reinvested back into the business. The cash can also be passed on to the investors in the form of a dividend. Companies usually have a dividend payout ratio between 40-60 percent. A company raises its dividend, through the board of directors, when the company increases its earnings.
yield = dividend rate / purchase price
The yield represents the annual return on a yearly basis. The dividends that are paid out are taxed less than regular income. A high yield means investors do not have high confidence in the company in the near future.
A bond is a debt instrument. A bond is basically a loan by the investor to the government or a corporation. The corporation or government must pay the loan back plus interest in the time allotted. The interest is paid to the investor usually paid every six months. This interest that the investor receives is taxed at the marginal rate, or as earned income. The interest on a bond is slightly higher than a guaranteed investment certificate. The interest rate , or coupon rate, will not increase of decrease year to year.
It is difficult for an average investor to invest in bonds directly unless that have money like $10000. The average investor starting out, would be better to invest in a bond ETF or a bond mutual fund. An ETF is basically a mutual fund that trades like a stock. Examples of bond ETFs are PCY and JNK on the NYSE.
A mutual fund is basically an investment company. A mutual fund is run by a professional money manager. A mutual fund is a pool of money from investors that is invested in the stock market in instruments according to its own objective. Mutual funds are run by professional money managers, offer instant diversification and allows an investor to diversity with a small amount of capital. When an investor invest in mutual funds they pay a management expense ratio, or MER. A mutual fund does not trade like a stock. Instead, if an investor wants to purchase units in a mutual fund, there order must be in 3-5 hours before the market closes. The net asset value of the assets under management is calculated at the end of each day for the market being open. If you put in your order early enough in the trading day, the purchase will go through that day after the net asset value, or NAV, is calculated.
When people are trying to sell there mutual funds, a mutual fund must sell shares of some of its assets they own if they do not have cash on hand. This will cause the assets under management to be less resulting in the price of the mutual fund to be less.
The distributions that are paid out can include capital gains, foreign income, eligible dividends , non-eligble dividends or return of capital.
Coming soon : Type of Investments - Part 2