1.12.1.G1

Introduction to Investing

Financial Literacy

Saving and InvestingWe need to have enough money to

meet our needs and provide emergency funds

Once an appropriate amount of liquid assets are reached

Recommend refocusing goals from saving to investing

Remember: The

purpose of savings is to

develop financial security

What is Investing?• Purchase of assets with the goal of

increasing future income• Focuses on wealth accumulation• Appropriate for long-term goals

What are examples of long-term

goals that can be

accomplished by investing?

RiskPOTENTIAL

RETURNRISK

Risk- uncertainty regarding the outcome of a situation or event

Investment Risk- possibility that an investment will fail to pay the expected

return or fail to pay a return at all

All investment tools carry some level of risk

What is the risk level of savings

tools?

InflationInflation

Rise in the general level of prices

Inflation RiskThe danger that money won’t be worth as

much in the future as it is today

Inflation risk is usually not a concern with savings since the goal of savings is to provide current financial security

Strive to have the rate of return on

investment be higher than the rate of inflation

Types of Investment Tools

Stocks Bonds

Mutual Funds

Index Funds Real Estate

Speculative Investments

StocksStock Stockholder or shareholder

Usually a stockholder owns a very

small part of a company

A share of ownership in a company

Owner of the stock

Dividends Market Price

Return on Stocks

If stock is sold for a market price

higher than what was paid

Share of profits distributed in cash

to stockholders

Dividends may or may not be paid;

it depends on company profit

and policy

Current price that a buyer is willing to pay for stock

If stock is sold for a market price

lower than what was paid

Stockholder will receive a return

Stockholder will lose money

Definition

What is received?

Bonds

Form of lending to a company or the government

(city, state, or federal)

Annual interest is paid to investor

Once the maturity date is reached, the principal is

repaid to the bondholder

Bonds are less risky than stocks but

usually do not have the

potential to earn as high of

a return

Definition

Return

Advantage Disadvantage

Mutual FundsMutual fund- when a company combines the funds of many different investors and then invests that money in a diversified portfolio of stocks and bonds– Mutual funds

charge a fee for the administration of the fund, even if they lose money

Make sure to research the fees charged by a mutual

fund

Reduces investment

riskFees may be

highSaves

investors time

Index Fund

Index: Index Fund:

A mutual fund that invests in ALL the stocks and bonds that make up an index

A group of similar stocks and bonds such as the S & P 500, Dow Jones Industrial Average, and Nasdaq

Index Fund

What is the difference between a

mutual fund and an index

fund?

Advantage Disadvantage

High diversification

Usually charge lower fees than

mutual funds

Still charge fees

Real Estate

• Any residential or commercial property or land as well as the rights accompanying that land

• A family home is usually not considered an investment asset

• Can be risky and more time consuming but has potential for large returns

Examples of real estate

investments include rental

units and commercial

property

Speculative Investments

High risk investmentsHave the potential for significant fluctuations in return over a short

period of time

Futures Options Commercial Paper

Collectibles

Financial Risk Pyramid

Speculative Investment

ToolsIncreasing potential for

higher returns

Increasing risk

Savings ToolsChecking

AccountSavings Account

Money Market Deposit Account

Certificate of Deposit

Savings Bonds

Investment Tools

Bonds

Stocks

Mutual Funds

Real Estate

Options Collectibles

Futures

Commercial Paper

Index Funds

The risk level for specific investment tools may vary

Investment PhilosophyEveryone has a tolerance level for the

amount of risk they are willing to take on

Investment Philosophy- an individual’s general approach to investment riskThe greater

the risk a person is

willing to make on an

investment, the greater the

potential return will be

Generally divided into three categories: conservative, moderate, aggressive

Portfolio Diversification

Portfolio Diversification- reduces risk by spreading investment money among a

wide array of investment tools

Creates a collection of investments that will provide an acceptable return

with an acceptable exposure to risk

Assists with investment risk reduction

Referred to as “Building a Portfolio”

DISCOUNT BROKER (EXAMPLE: SCOTRADE)

Buying and Selling Investments

Brokerage firm acts as a buying and selling agent for an investor (except for real estate and

certain speculative investments)

FULL SERVICE GENERAL BROKERAGE FIRM (EXAMPLE: CHARLES SCHWAB)

Complete investment

transactions

Offer investment advice and one-on-one attention

from a broker

Only complete investment transactions

Offer no advice to investors but

charge 40-60% less

TaxationProfits earned on investments are unearned

income (not from working at a job)

Taxes are often owed on unearned income

Taxes are due on most investment returns in the year the unearned income is received, such as

interest earned on a savings account

Tax-Sheltered Investments

Government tries to encourage certain types of investments by making them tax-

sheltered, or protected from taxes

Tax-sheltered

investments are usually

not tax-free!

Tax-sheltered investments-

eliminate, reduce, defer, or adjust the current year

tax liability

• Retirement• Child/dependent care• Education expenses• Health care expenses

When are taxes for tax-sheltered investments usually paid?

Money is invested after taxes are paid

Example: Roth IRA

Money grows untaxed with help from compounding interest

Money is withdrawn at retirement but NOT EVER TAXED

Money is invested but not taxed at the time of investment

Examples: 401(k) and IRA

Money grows untaxed with help from compounding interest

Money is withdrawn at retirement and taxes are paid

There are often limits to the amount that can be invested

OR

What is the benefit of a tax-

sheltered investment if

taxes still have to be paid?

Difference in Ending Balance With Tax

Sheltering$100,000 investment for 36 years at 6%

Tax Sheltered:

Will double in value every 12 years (72/6 = 12)

Year 1: 100,000Year 12: 200,000Year 24: 400,000Year 36: 800,000

Not Tax Sheltered with 2% paid in taxes every year:

Will double in value every 18 years (72/4 = 18)

Year 1: 100,000Year 18: 200,000Year 36: 400,000

You end up with DOUBLE the ending amount of money!!

Types of Tax-Sheltered Investments

• 401(k):–employer sponsored, employer may

match employee contribution–Money invested is before taxes are

calculated, so you save on taxes NOW– Investment can grow tax free until

retirement–When funds are withdrawn, taxes are

paid

Types of Tax-Sheltered Investments

• IRA (Individual Retirement Account)–Anyone can have an IRA–Not connected to your job–Money invested is before tax– Investment can grow tax-free

until retirement–Taxes are paid when money is

withdrawn at retirement

Types of Tax-Sheltered Investments

• Roth IRA–Anyone can have a Roth IRA–Money invested is after taxes are paid– Investment can grow tax-free until

retirement–NO TAXES are paid on original

investment or increase in principal EVER (this is a big advantage to taxpayer)

Advantages of Employer-Sponsored Investments: 401(k)

Reduces tax liability

Makes investing

automatic

Possibility for employer to match

investment

It is recommended that a person utilize these investment

tools as much as possible if

they are offered