In this post:

• What Is Pre-IPO Stock Investing?
• Why Do Companies Sell Pre-IPO Stock?
• Can Retail Investors Purchase Pre-IPO Shares?
• What Are the Advantages of Pre-IPO Investing?
• Pre-IPO Investing Risks
• Things to Keep in Mind While Investing in Pre-IPO Stocks
• Should You Consider Pre-IPO Investing?
• FAQ

What Is Pre-IPO Stock Investing?

Pre-IPO stocks are shares that a private company sells to investors before the company goes public (before its IPO). Most companies who sell pre-IPO stock use a process called pre-IPO placement. These shares are often bought by institutional investors like hedge funds and private equity firms, along with a few retail investors.

Why Do Companies Sell Pre-IPO Stock?

There are two key reasons why many private companies offer pre-IPO shares to investors before they go public.

Raising Funds

Pre-IPO placements allow a company to raise funds before it goes public. Once a company goes public, its share price can be affected by a wide range of factors. The IPO may not meet expectations. If investors don’t buy the shares, the company might not be able to raise the funds it needs.

Pre-IPO shares, on the other hand, are not subject to market-related volatilities. The company can sell large blocks of shares at a fixed price and raise a predictable amount of money.

Getting Guidance from Investors

Large investment firms, hedge funds, and other institutional investors who have unmatched resources, expertise, and decades of experience are the ones that buy most pre-IPO shares. They can guide the company’s management, help them make the right decisions, and smoothen the process of transitioning from a private company into a publicly-traded company.

The advice and insights offered by these investors can be invaluable, particularly for startups.

Can Retail Investors Purchase Pre-IPO Shares?

Pre-IPO investing is not easy and has a high entry barrier. A vast majority of pre-IPO shares – which are usually offered in large blocks – are purchased by deep-pocketed institutional investors. Individual investors can participate, but there are significant restrictions in most cases.

Accreditation Requirements

Many countries require individuals to meet specific criteria before being allowed to purchase pre-IPO shares. These criteria usually address the following two questions:

• What is the minimal net-worth and/or income level of investors allowed to participate?
• What proof do investors need to provide to show that they meet these criteria?

In the US, SEC rules restrict many private offerings to “accredited investors“, who must have significant income and net worth and demonstrated experience with investment markets.

The SEC has recently revised the criteria for “accredited investors”. The criteria are still restrictive but they have been significantly relaxed, meaning more investors will be able to invest in these stocks. Check the SEC’s revised accredited investor criteria.

Lock-in Periods

Pre-IPO shares have a lock-in period, during which you are not allowed to sell or trade them. This is usually designed to prevent pre-IPO investors from dumping their shares immediately after an IPO.

See all the ways you can get in on pre-IPO investing: How to Buy Pre-IPO Stocks?

What Are the Advantages of Pre-IPO Investing?

Pre-IPO investing has advantages that are difficult to duplicate in any other investment market. Let’s look at some of them.

The Opportunity to Get Exponential Returns

This is the biggest reason why many seasoned investors choose to invest pre-IPO. If you pick the right company at the right time, you can get enormous returns on your investment.

Pre-IPO Stocks Are Available at a Discounted Price

When you invest in pre-IPO stock, you don’t know how the company will actually perform once it goes public. To offset this risk, private companies usually offer pre-IPO stocks at a discounted price.

A Chance to Build Long-Term Wealth

One of the biggest benefits of pre-IPO investing is that you are investing in a company that is on its way up.

If the company performs well, you can benefit enormously from its growth in the long term. It is not uncommon for million-dollar startups to turn into billion-dollar public companies, especially in the tech industry. So, your investment in a company at the pre-IPO stage could pay off massive returns in the future and help you build long-term wealth.

Pre-IPO Investing Risks

Like any other investment, pre-IPO stock also comes with risks, which you need to consider before making an investment decision.

The Risk of Low Returns

The biggest risk associated with pre-IPO investing is that there is no guarantee that the stock will perform well. If the IPO fails and if there is no demand for the company’s stock, you might not get the returns you expect to get.

If the company you invested in performs terribly, its stock might lose value rapidly. You might end up losing most or all of your investment.

The Company Might Not Go Public

When you invest in a company pre-IPO, you do so expecting that the company will go public in the near future. You do not actually know that it will go public. IPOs can be postponed, halted, or canceled at the last minute for a number of reasons.

Lack of Adequate Financial Information

One of the problems with pre-IPO investing is that you might not be able to get all the data you need to make an informed decision. Publicly traded companies are required by law to disclose their financial information to the public. Private companies have no such requirements.

This creates an information asymmetry, wherein the people who are selling the shares (the company management) know all about the company and its financial situation whereas the people who are buying the shares (the investors) do not have access to this information. This is something you should keep in mind while investing in pre-IPO stock.

Pre-IPO Investing: How It Works, Can (And Should) You Do It?

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Things to Keep in Mind While Investing in Pre-IPO Stocks

Do Your Research Before Investing

Do your research and find out as much as possible about the company you are about to invest in. Is there a genuine demand for the product or service the company offers? Is their projected rate of growth realistic and achievable? Are the shares reasonably priced? These are things you need to find out before you make a decision.

Be Aware of the Risks Involved

Understand the risks involved in pre-IPO investments. Not all pre-IPO investments succeed. Some make big money. Others never go public at all. Be careful about what you invest in and how much you invest.

Read the PPM Carefully

Private companies which intend to go public provide a Private Placement Memorandum (PPM) to their investors. It is a document that contains the information you need to decide whether the company is worth investing in or not.

A PPM usually contains information about the company, its management, the products and services it offers, the customer base it caters to, its performance in the past, its financial resources, and potential risk factors that investors should consider.

Make sure you read the PPM carefully before deciding to invest in pre-IPO stock. You can also request your investment advisor or stockbroker to take a look at the PPM and ask them for their opinion.

Start Small

Do not make a large investment straight away – especially if this is the first time you are investing in pre-IPO stocks. It is advisable to start small and increase your investments gradually over a period of time. As they say – dip your toe in, don’t dive.

Be Patient

Pre-IPO investing is not a get-rich-quick scheme. It can take several months – or in some cases, even years – for a company in the pre-IPO stage to go public. Moreover, even after the company goes public, its share price might not increase right away. So, it’s paramount for you to be patient and focus on long-term wealth generation rather than expecting quick returns on your investment.

Be Realistic in Your Expectations

Not every company you invest in will turn into a Google or Amazon. Do not be swayed by stories of people who invested a few thousand in Apple or Amazon when they were fledgling startups and then made millions. It does not happen every day!

Instead of looking for the next big thing to invest in, look for companies that have the potential to perform well over a period of time. Aim for good returns on your investments, not a single grand slam.

Should You Consider Pre-IPO Investing?

Investing in pre-IPO stock can be a strategic way to build wealth in the long term. If you manage to invest in the right company at the right time, you can get tremendous returns on your investment. There are risks in pre-IPO investing – as is the case with any other investment – but the upsides can be tremendous. If you have the resources and a suitable risk profile, it is an investment opportunity you should not miss out on.

Want to learn more about pre-IPO investing? Check out our guide on how to invest in pre-IPO stocks.

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The post Pre-IPO Investing: How It Works, Can (And Should) You Do It? appeared first on FinMasters.

In this post:

• Typical Assets in a Portfolio
• Time Horizon in Asset Allocation
• Risk Profiles in Asset Allocation
• Why Does Asset Allocation Matter?
• Making Changes to Your Asset Allocation
• Portfolio Rebalancing

Typical Assets in a Portfolio

Before you begin allocating assets, you need to understand what you’re allocating. A number of asset sub-classes exist within the three primary asset classes.

• Treasury Bills: This is a popular short-term investment with a maturity period of up to one year. T-Bills are backed by the US government.
• Fixed-Income Securities: These include government or corporate bonds. These securities will pay you a pre-determined interest amount, either at maturity along with the principal or at periodic intervals.
• Large-cap Stocks: Shares of companies with a market capitalization over $10 billion. These are generally considered to be among the safer stocks.
• Mid-cap Stocks: Shares of companies with a market capitalization of $2 billion to $10 billion. These are considered safer than small-cap stocks but riskier than large caps.
• Small-cap Stocks: Shares of listed companies with a market capitalization below $2 billion. These are usually considered riskier than large and mid-caps.
• International and Emerging Market Securities: Securities issued by foreign corporations listed on an international exchange are called international securities. You can expect higher risks and higher rewards, especially from companies in developing countries.
• Real Estate Investment Trusts: REITs pool funds from multiple investors to buy, operate or finance income-producing properties.

Large-cap stocks are generally considered to be low-risk, with risk levels increasing as company size decreases. While this is a useful general rule, there are exceptions. A heavily hyped large company may have an artificially inflated value. A large company in a stagnant or declining market niche may be a risky investment.

Risk levels of different asset classes may change due to market conditions and should be reassessed on a regular basis.

Time Horizon in Asset Allocation

Depending on your age, your family circumstances, and your financial goals, you can determine the estimated time period for which you would like to stay invested in a particular asset.

Younger people usually have a longer time horizon. They are more inclined to invest in relatively riskier and more volatile assets (such as equities). They can patiently wait out the periods of extreme market fluctuations and slowdowns, and earn superior long-term returns.

On the other hand, an investor who needs money for an approaching retirement or someone who is saving money for their children’s college education might have a shorter time horizon. They have less time to recover from a potential downturn. That means they should allocate more funds towards less volatile and more liquid assets in their investment portfolio.

Risk Profiles in Asset Allocation

Asset allocation will also depend on your individual willingness and ability to lose a part or all of your investment. Investors with a strong and stable running income or a very substantial net worth may have a larger risk appetite. They can afford to lose a small part of their portfolio value in their pursuit of exceptional returns.

New investors and small investors will usually want to maintain a balanced asset portfolio with relatively low risk. Your risk profile may go up as you become more comfortable with investing.

The asset allocation in your investment portfolio should always be in sync with your risk tolerance (how much risk you’re willing to take) and your risk capacity (how much risk you’re financially able to take). That way any short-term ups and downs in the markets will not upset your financial plans or your lifestyle.

Learn what influences your risk tolerance and your risk capacity: How to Calculate Your Risk Profile?

Here are some typical asset allocation guidelines for different risk profiles.

Very Conservative Profile

If your risk profile is very conservative, your will want your asset allocation to favor money market and fixed-income securities. These entail minimal risk. The primary objective is to preserve the principal capital at all costs. You won’t get dramatic returns, but your capital will be protected.

A typical very low risk portfolio might include 30% cash and cash equivalents, 50% bonds, and 20% low-risk stocks.

Consider putting half of that equity allocation into large, low risk companies and dividing the other half among medium-sized companies and established international firms. You may wish to choose funds focused on those areas, especially if you have limited funds to invest.

In an extremely low interest rate environment (as we have in early 2021), you may still need to allocate more funds to equities as a hedge against inflation: if inflation outpaces your returns you are actually losing money. You might place additional funds in an index fund or choose top-rated stocks of highly reputable companies.

Conservative Risk Profile

If you’re a conservative investor you still want to protect capital. You may also be willing to embrace a bit of risk in search of better gains. You’ll still want to lean heavily toward cash and equivalents and fixed-income investments, but you may also want to beef up your stock allocation. You’ll be adding to the funds you have committed to stocks, but still sticking with conservative stock investments.

A typical low-risk allocation might include 20% cash or cash equivalents, 40% bonds, and 40% stocks.

If you’re in the conservative bracket you will want to keep your fixed-income investments in government and high-rated corporate bonds. Your stock allocation will probably be dominated by large, stable companies and dividend-bearing stocks. You may want to look to well-diversified equity funds or index funds for your stock allocation. You could also consider adding small allocations for small company, international, or emerging market funds.

Balanced Risk Profile

If you are neither a highly conservative nor a highly aggressive investor, you may have a balanced risk profile. You may want to select stocks of companies that pay high dividends, have minimal debt and high cash reserves, and have a long track record of performance in the stock markets.

An asset allocation for a moderate risk profile might include 5% in cash and cash equivalents, 40% in bonds, and 55% in stocks and equities.

Your might half of your stock portfolio between large cap and mid cap stocks and distribute the rest among the riskier but more growth-oriented classes. You might allocate smaller amounts to some more adventurous stocks, targeting smaller companies, growth-oriented companies, or emerging market funds. To minimize risk and to ensure superior returns, it is best to have a time horizon of at least five years for a balanced investment portfolio.

Aggressive Profile

With an aggressive risk profile you can afford to invest aggressively in the hope of higher returns. The largest asset allocation in your portfolio should be in stocks. Within that category, you can carefully select large cap, mid-cap and small cap stocks as well as mutual funds.

A high risk asset allocation might include 5% cash and cash equivalents, 20% bonds, and 75% stocks.

Within these categories, an investor might look at a diversified portfolio of higher-risk bonds with relatively high yields. The stock portfolio might retain allocations for conservative large cap and mid cap stocks but could devote more than half its allocation to toward riskier growth-oriented stocks. You might look for more exposure to individual stocks rather than funds.

Very Aggressive Profile

If you have a long time horizon and a strong desire to crush the market, you may fit the “very aggressive” risk profile. A very aggressive risk profile means that you’re willing to take risks that other investors won’t, but they still need to be calculated risks. It’s about being aggressive, not stupid. You’ll be willing to tread where many other investors won’t go. You’ll still want to balance your allocations, hedge some bets, diversify your portfolio, and manage your risks.

An asset allocation for a very high risk tolerance might include 5% cash or cash equivalents, 10% bonds, and 85% stocks.

Within that allocation you may wish to emphasize newer growth-oriented companies, some international assets, and other stocks that offer higher growth potential but entail higher risk. You will still want to diversify those aggressive holdings and not put too many eggs in one basket. The more risk you take on, the more important diversification becomes.

Not sure what your risk profile is? Take our test and find out: Risk Profile Test

Why Does Asset Allocation Matter?

Asset allocation is the broader form of diversification. When one asset class has a strong market demand, the other asset classes may not be delivering good returns. Investing across multiple asset classes can give you a level of protection against market fluctuations.

Your investment portfolio will be more liquid at all times, and you will generally have a
smoother ride in terms of your long-term portfolio returns. Asset allocation is a proven risk mitigation strategy. A disciplined asset allocation approach will prevent you from ending up putting all eggs in one basket and incurring excessive risks. Warren Buffett famously spoke about the two golden rules of investing:

Rule no. 1: Never lose money.
Rule no. 2: Never forget rule number one.

Making Changes to Your Asset Allocation

The future is unforeseeable. At some point, your investment priorities might change. There may be a change in your risk tolerance or your time horizon. In many cases, as people inch closer towards their retirement, they may want to increase the allocation of cash and bonds while reducing the stocks allocation in their portfolio, especially in uncertain economic conditions.

Unless your financial goals or your financial situation have changed, it may not be a smart idea to frequently change your asset allocation in the short-term. Seasoned investors usually do not make significant changes to their asset allocation just on the basis of the temporary market performance of certain asset classes.

For instance, just because the stock market is currently hot and going through a bullish phase, it does not mean you should increase the allocation of stocks in your portfolio at the expense of other asset classes. it may be a good time to “rebalance” your investment portfolio, as experienced investors typically do when one asset class outperforms.

Portfolio Rebalancing

Portfolio rebalancing is a way to restore the original asset allocation of your investment mix. With the passage of time, rebalancing becomes essential because some of your assets may no longer be aligned with your investment goals. Markets are unpredictable, and you will have little control when some of your assets grow much faster than others.

For example: If you have allocated 40% of your portfolio to stocks and 40% to bonds, an exceptionally good year for equities will change that proportion as the equities you own gain in value. You will have to decide whether to adjust your holdings to conform to your allocation goal.

Portfolio rebalancing can ensure that your investments are not overly biased towards a
particular asset class, and you will be able to restore your portfolio to a manageable level of risk tolerance.

There are three ways to rebalance your portfolio:

• Add new investments in asset classes that have become under-represented in your portfolio.
• Sell some of the over-emphasized asset classes and utilize those funds to increase exposure to some under-weighted assets.
• If you make periodic contributions to your investment portfolio, you can make adjustments to increase the contributions to under-represented asset classes until the balance is restored.

It may seem strange to reduce your exposure to asset classes that are performing well. Over time, though this strategy is effective. Taking gains once an asset class has risen can protect you from a subsequent down cycle and add to holdings in assets that remain relatively inexpensive.

The Final Word

Asset allocation is a foundational approach to investing that will let you minimize your risk and maximize your returns. Stick to your core investment philosophy and risk tolerance when determining your asset allocation. Do not make drastic changes to your portfolio just because one asset class is doing exceptionally well at the moment, and another class is going through a phase of stagnation.

It can be tempting to concentrate your portfolio towards the hot asset of the day, but investors who have ‘seen it all’ know that nothing is permanent in the markets. Keep an eye on your long-term investment goals, time frames, and risk tolerance levels while choosing and maintaining your asset allocation strategy for the best outcomes.

The post What Is Asset Allocation and Why Does It Matter? appeared first on FinMasters.

If you’re considering alternative investments, you’ll need to learn before you buy. Here’s a basic briefing to start the process.

What are Alternative Investments?

An alternative investment involves exposure to assets other than the traditional cash, bonds, funds, and stocks. Alternative investments may be made in physical assets (such as gold, art, or rare wines), or in financial assets, such as hedge funds, private equity, REITs, distressed securities, or cryptocurrency. These asset classes often do not have a correlation with equity markets, and they may perform strongly when the stock markets are bearish. That’s because many investors seek alternatives, especially those that involve ownership of a hard asset, when markets are not performing well.

Most types of alternative investments have a relatively high risk profile and promise high returns. You may have to lock up your funds for several years to earn those returns, and there’s no guarantee that you will earn them at all. These investments can be capital intensive, requiring a large initial outlay. Buying and selling can be difficult, so you may not get a quick exit when you need cash. 

Types of Alternative Investments

As an individual investor or as a beginner, you may do well to restrict yourself to one of the following alternative investments if you are looking to add them for portfolio diversification. Start with the one you understand best. Once you’re comfortable with it, consider adding others.

Some of the more popular forms of tangible and intangible alternative investments include: 

P2P Lending 

A number of online P2P lending platforms, such as Prosper, LendingClub and Peerform offer loans for personal use, business use, and almost any other need. Mintos operates in Europe, and Funding Circle serves the US and the UK. YieldStreet allows participants to make loans secured by collateral, which reduces risk.

All of these services allow you to join an investor pool and lend your money to qualified borrowers for a return that will typically be higher than what you’d earn from a traditional savings vehicle. 

Real Estate

Real Estate Investing is one of the most popular forms of alternative investment. You may consider buying and owning a property, such as a house or an apartment complex, and collecting rent from the tenants. If you wish to avoid the responsibilities of a landlord, you may hire a property manager. Remember that managers cost money, and will cut into your returns!

Online investing platforms such as Fundrise and PeerStreet are also gaining popularity. These platforms allow you to invest in residential properties without the typical responsibilities of a landlord. REITs also offer a way to invest in real estate without the entry barriers and liquidity restraints of direct investment in real estate.

Gold 

Many people see gold as an excellent portfolio diversifier and a tangible hedge against the risks of inflation. In times of unforeseen economic challenges, gold has historically performed the role of a rescue asset, rising in value when other assets fall. You can invest in physical gold coins or bars, or invest in gold accounts, gold ETFs, or participate indirectly by investing in stocks of gold mining companies. 

Equity Crowdfunding 

Equity crowdfunding platforms, such as Wefunder, AngelList, SeedInvest, and CircleUp in the US or CrowdCube and Seedrs in Europe allow you to invest in startup companies that are offering shares in order to raise funds.

Investing 101: Alternative Investments For Beginners

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If a startup you have invested in succeeds over time, you can make enormous returns on your capital. However, if the startup fails (Forbes Magazine reports that 90% of startups fail) you risk losing your entire investment. Equity Crowdfunding lets you take on the role (and the risks) of a Venture Capital firm with only a moderate investment.

Cryptocurrencies

Digital currency assets like Bitcoin have been delivering astronomically high returns for a small number of investors. However, the extremely volatile nature of crypto assets makes them a risky alternative investment. The concept behind the usefulness, security and value of cryptocurrencies is highly abstract. They are popular today but there’s no assurance that they will be tomorrow. The current high valuation of many cryptocurrencies may indicate that the fad has run its course.

Crypto Interest Accounts

Cryptocurrency interest accounts let you earn interest on your cryptocurrency holdings. You’ll allow someone else to use your crypto keys, and in return they’ll pay you interest. Many of these accounts pay substantially higher interest than normal savings accounts, with payouts on some accounts reaching 8-12% per year. It’s important to note that these accounts are not insured by the FDIC. Some accounts may have a lockup period after your first deposit and accounts often limit withdrawals, so if the value of your cryptocurrency turns down you may not be able to sell as fast as you’d like.

Popular Crypto interest account providers include BlockFi, Celsius Network, Nexo, and Compound. Each has its own advantages and disadvantages, so you’ll want to do some research before making a decision.

Collectibles

Collectibles include everything from fine art to wines, coins, stamps, and almost anything else that people are willing to pay for. Investing in art is one of the most popular forms of investment in collectibles, but there are many other options. In most cases collectibles are not highly liquid, and it may be difficult to find a buyer when you want to sell. You’ll need to have either professional advisors or a high degree of expertise in the particular field you’ve chosen.

If you want to invest in collectibles without committing large sums, look into Masterworks, a platform that allows you to buy a fraction of a high-value artwork. You won’t be able to hang the piece in your living room, but your shares can be bought and sold and you can mitigate the risk of sole ownership.

Commodities

Dozens of commodities are traded on US exchanges, ranging from oil of gold to wool, rubber, and various grains and food products. Most fall into four broad categories: metals, energy, agricultural, and livestock and meat.

There are several ways to trade commodities, including futures contracts, options, and commodity-focused ETFs. The value of commodities can be affected by many factors, and many of those factors are unpredictable. That makes commodities trading risky, but there are profits to be made if you have the expertise. You will need to study commodities trading for some time before you’re ready to trade, as the processes are complex.

Private Equity Funds

Private equity funds combine the potential gains of private equity investing with the diversification of a mutual fund. These funds pool money from multiple investors and invest it in dozens or hundreds of selected startups, with the diversification providing some cushion against the risks of startup investing

Consider the AngelList Access Fund or the Seedrs EIS100 Fund. Some private equity funds are limited to high net worth investors, and minimum investments may be substantial.

Agriculture and Farmland

Agriculture is an industry with inherent potential: everyone needs to eat, and growing populations and nations emerging into prosperity push food demand and prices up. Investing in agriculture can be complicated, especially if you don’t plan to own and operate a farm. There are still ways to do it.

The simplest way to invest in agriculture is through exchange-traded funds like the Van Eck Vectors Agribusiness fund (NYSEARCA: MOO) or the Invesco DB Agriculture fund (NYSEARCA: DBA), which invests in agricultural commodity futures. These and other funds invest in a variety of agricultural enterprises, giving you a diversified agriculture portfolio with a single investment.

There are several other options for investing in farmland. AcreTrader allows you to purchase shares in farmlands, and crowdfunding platforms like Harvest Returns, Farm Together, and FarmFundr link investors to agricultural enterprises that seek financing.

Income Annuities

An income annuity delivers a monthly income stream in return for a fixed investment. You invest a lump sum and receive monthly payments, often for life. Individuals in or approaching retirement often use income annuities to supplement their retirement income.

Income annuities may involve committing a substantial sum, and you should consult a financial professional to determine which product suits your needs best.

Treasury Securities

Treasury securities are fixed-income investments issued by the United States government, and are considered to be among the most secure investments you can make. Because of that security interest rates may be low, especially when the overall interest rate environment is low. Treasury securities still have a place, especially for investors with a low risk tolerance.

Treasury Securities are usually divided into short-term Treasury Bills (T-Bills), mid-term Treasury Notes (T-Notes), long-term Treasury Bonds (T-Bonds), and Treasury Inflation-Protected Securities (TIPS). Each has its own term and payout system, but in each case you are lending money to the US Government. The interest rate may be low, but you will receive it and you will get your money back when the term of the investment is up!

Certificates of Deposit

Most banks and credit unions offer certificates of deposit, often called CDs. These accounts require you to commit funds for a specific period of time. In return you’ll get a higher interest rate than most savings accounts offer. You’ll pay an interest penalty if you withdraw the money before the time period expires. CDs are insured by the FDIC and are a highly secure way to save money. Many people use CDs to save for a specific purpose that dictates when the money will be used, like a tuition payment or a down payment on a house.

Some CD users opt for a CD ladder, which uses multiple CDs with different maturity dates to assure regular availability of funds. Ask your bank, credit union, or other CD provider for details.

Invest in Online Business

Many people start online businesses and find that they are not in a position to sustain them or maximize their potential. These businesses are often for sale, sometimes at quite affordable prices. If you’re considering starting an online business, buying an existing one can save you a lot of work and time.

As with any decision to go into business, you’ll need some time and some expertise to choose and evaluate an online business that’s been offered for sale. You’ll need to understand the business niche and the underlying technology, and you’ll need to review the financials carefully. Choosing the wrong business could mean a lot of time and energy put into making the website and the business viable. Choosing the right one could be a short route to online profits.

These are very different investment instruments, but they all have one thing in common. If you plan to invest, you’ll need a strong understanding of your chosen alternative investment.

Knowledge is power, and these are not investments to make casually.

Pros and Cons

You should objectively evaluate the strengths and limitations of alternative investments before making a decision to buy.  

Pros of Alternative Investments

These are some of the advantages of alternative investments.

Tax Benefits

Some types of alternative investments may offer sheltered or tax advantaged cash flows. Favorable long-term capital gains tax treatment and pass-through depreciation are two distinct tax benefits to consider in some of these investments. If you become a part-owner of a private syndicate or fund in an alternative investment, the tax benefits (such as a deduction for depreciation) will get passed on to you directly. 

The tax status of alternative investments and their earnings can be complicated, and you’ll need to consult a tax professional to be sure you’re assessing them correctly.

Opportunity for Exceptional Returns 

Alternative investments are often parts of less efficient markets, which increases the possibility to earn exceptional returns. Sometimes the market conditions may favor a particular asset class, give you the chance to profit from it.

For instance, after the 2008 financial crisis, some cash-rich investors purchased deeply discounted real estate assets and made substantial profits over a short period.

Greater Sense of Satisfaction and Control

Special skills, knowledge, or experience in a particular alternative asset class can give you the opportunity to profit. In addition to the financial gains, you can also get a sense of emotional and intellectual satisfaction. For instance, if you a deep understanding of a newly emerging technology and you invest in a startup in that area, you are likely to enjoy the entire process of valuation, funding, mentoring, and taking ownership, apart from gaining strong returns.

Many alternative investments are best suited to individuals who have this deep area-specific knowledge.

Cons of Alternative Investments

Alternative investments can also have significant risks and disadvantages. These are some of the most prominent.

Risk of Adverse Tax Consequences

Some alternative investments can also carry negative tax consequences.

For example, you may be considering entering into a private partnership as an investor. Although the partnership structure allows for pass-through taxation, the deed may not have the mandatory clause for tax distribution. In this case, you may end up with a large tax bill, which you’ll have to pay out-of-pocket even when the partnership has not distributed any cash during the assessment year.

Complex investments often require the attention of tax and legal specialists, which can be a significant expense.

Risks Arising from Lack of Transparency

Many alternative investments carry extra risks arising from a lack of transparency.

For example, when you invest in commingled funds or pooled structures, it can be difficult to recognize your risk levels without complete information. Prior to the 2008 financial crisis, some bank-sponsored funds indulged in “window dressing” and sold risky assets in ways that made the deals look completely safe to the buyers. In reality, the buyers were exposed to risky alternative assets that were completely wiped out when the crisis occurred. 

Alternative asset markets may not be as thoroughly regulated as major investment markets, and information may be limited or unreliable.

Risks of Complexity of Investment

Alternative investments are often highly complicated. This makes it difficult to determine their actual underlying value.

For example, unless you have specific knowledge about exotic assets, such as art, antiques, or rare wines, you may not understand their real worth and their market demand patterns. This increases your risk of buying at a time when the valuations are peaking. These complex investments are inherently characterized by low liquidity, and their exit from some types of assets may be restricted. 

Many alternative assets get the most attention when they are at peak or near-peak values, which is also the worst time to buy them: the idea is to buy low and sell high, and that’s hard to do unless you have a very clear idea of actual and potential value.

If an alternative investment is in the news, it’s probably not a good time to buy it!

Final Word 

When considering alternative investments as a beginner, you should focus on avoiding get-rich-quick schemes, scams, and completely new or unproven investments. Avoiding mistakes is far more crucial to preserving and growing your capital than making big winning moves.

Alternative investments can be an effective way to diversify your portfolio and hedge against downturns in traditional asset markets. They can generate significant returns. They also present unusual risks, and they require specialized knowledge. If you have real expertise in a specific asset class, and if you have money to afford to commit to speculative investments, you may wish to explore them further. If not, you may wish to wait until you’re ready.

The post Alternative Investments: What Are They, Types, Pros & Cons appeared first on FinMasters.

In this post:

• How You Make Money From Real Estate Investing
• 6 Ways to Start Investing in Real Estate
  1. Rent Out a Room or a Part of Your House
  2. REITs or Real Estate Investment Trusts
  3. Investing in a Rental Property
  4. House Flipping
  5. Real Estate Crowdfunding
  6. Online P2P Real Estate Lending
• Challenges and Risks of Real Estate Investing
• Final Thoughts

How You Make Money From Real Estate Investing

Real estate investment can produce two types of gains: value appreciation (growth) and rental revenue (income).

Value Appreciation

Real estate can rise in value. If it does you can eventually sell your asset for more than you paid for it. There are three main drivers for value appreciation.

• Overall market conditions. National real estate trends affect property values nationwide, and they rise and fall according to macroeconomic conditions.
• Local market conditions. Property values in specific neighborhoods can rise or fall according to local economic and demographic trends.
• The condition of your property. Investing in upgrades and maintenance can significantly increase the value of a property.

Rental Income

In this case, you invest in a piece of real estate, such as an apartment building. You operate it with the aim of collecting rent from tenants.

Apartment rentals are just one way to generate rental income. You can also generate a cash flow income from other types of real estate properties, such as commercial buildings (office or retail), warehouses, storage units, and rental houses.

Value appreciation and rental income usually move in sync with each other. Properties in desirable areas command higher rent and attract more reliable tenants. That makes the properties more attractive to buyers and moves the asset value higher.

6 Ways to Start Investing in Real Estate

Here are some proven real estate investment strategies. These methods can work effectively for beginners as well as for seasoned investors.

1. Rent Out a Room or a Part of Your House

If your goal is to create passive income, you may consider renting out a part of your home or a spare room. Longer-term rental contracts can provide a steady stream of income. Short-term rentals (such as through Airbnb) could mean fluctuating monthly returns as tenants come and go. This strategy may be more effective if you live in an area that attracts tourists or other transient visitors.

Because you already own the property, you may be able to make this investment without a large initial expense.

You may still have to invest in home improvements before you can expect to rent out your spare space at home.

Be mindful of the hidden costs, such as utilities, maintenance, and insurance.

Consider potential vacancy periods, especially if you’re borrowing to fund renovations.

All of these factors have an impact on whether it makes financial sense to rent out a room.

Research the costs of hotels or competing rental properties in your area to get an idea of how much you can charge.

2. REITs or Real Estate Investment Trusts

A REIT is a useful real estate investment vehicle when you want to avoid a large, capital-intensive real estate transaction. REITs are created when a trust or a corporation uses funds from a pool of investors to buy and
operate income-generating properties. You can buy and sell many REITs on stock exchanges, making them among the most liquid real estate investments.

Real estate investing through REITs is a simplified way to make smaller investments. 90 percent of the taxable annual profits from a REIT must be distributed to shareholders in the form of dividends. If you are seeking a relatively stable income from real estate, a REIT may be an option worth exploring.

If you want to devote a portion of your portfolio to real estate but don’t have the capital to buy a property, REITs can be a great option. They also allow diversification without excessive expense.

Investing 101: Real Estate Investing For Beginners

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3. Investing in a Rental Property

Do you have some DIY and property renovation skills? Are you willing to go through the continuous exercise of screening and managing tenants? If you answered “yes”, investing in a rental property could be a lucrative option.

You need to have a significant amount of working capital upfront to finance the property acquisition, and you’ll need to consider some potentially significant costs:

• Interest (if you acquire the property with a loan)
• Maintenance and upkeep
• Taxes
• Insurance
• Tenant screening
• Vacant periods

Rental property investing gives you an opportunity to earn a regular income as well as the potential for capital appreciation over time. Through judicious use of leverage (borrowing to acquire an investment that generates enough return to pay for the debt and interest), it is possible to create a solid income while maximizing your tax deductions for related expenses.

Consider the risks of overleveraging, high vacancy rates, and tenant problems before you go ahead. Remember that taxes and other cost elements can change, and maintenance expenses are not always predictable.

Some rental property owners choose to engage property management companies to handle tenants and maintenance. These services come at a significant cost, which can cut into your returns.

Worried about overleveraging? One way of mitigating the risk of investing in rental properties that grew in popularity over the past couple of years is house hacking: buying a property, living in one part of it, and renting out the spaces you don’t occupy.

4. House Flipping

House flipping is a form of active real estate investing. This may not be the best option for beginners who are not well-versed with the property marketplace or do not have the renovation and marketing skills that are often necessary in this form of investing.

In a sense, you can compare house flipping to stock day trading. House flippers typically buy and sell undervalued properties for a small profit in six months or less. In some cases, the real estate flipper may not even invest in fixing the property and may focus on properties that have an intrinsic value that is higher than the current buying price.

Property flipping requires agility and experience. If a hot market begins to cool, you could be stuck with your investment, while its related costs continue to snowball. You’ll need to have a keen awareness of national and local market trends. You’ll also need to evaluate how much repairs cost and how much they add to the property’s value.

5. Real Estate Crowdfunding

This is a digital form of real estate investing. Crowdfunding investors pool their funds to invest in a relatively large residential or commercial property. A number of reliable online real estate platforms offer this type of real estate crowdfunding opportunity to investors. Some amount of capital investment is still required, but it will be significantly less than what you may have to fork out to purchase a property on your own.

This form of investing can provide geographic diversification as well as project diversification, if you invest in several projects. However, you must take into consideration the management fee involved and the minimum lock-in period for your investment. You will take a passive role and have minimal input into management. That can be useful if you don’t have the skills or the time to manage a property. It can be a problem if the property managers make mistakes.

6. Online P2P Real Estate Lending

P2P or peer-to-peer lending is another virtual way to invest in real estate. When you make an investment through online P2P real estate lending, you are financing someone else’s project. To diversify your risk, you can make small loans to multiple borrowers and create a portfolio of real estate loans with potentially high annual returns. As a beginner to real estate investing, it makes sense to loan only to top-rated borrowers, unless you have a high appetite for risk.

P2P real estate lending investments can be placed in some retirement accounts, such as IRAs. This can bring significant tax advantages.

You may consider P2P lending as a part of your portfolio diversification strategy, but choosing this vehicle alone for your real estate investments may bring too much risk.

Challenges and Risks of Real Estate Investing

Real estate investing sounds simple, but simple should not be mistaken for easy. A large capital investment is usually required. The costs of financing investment properties can be significant. Real estate investments may be illiquid, meaning that they can take considerable time and effort to sell.

Considering the large size of the investment and its relative illiquidity compared to other asset classes such as stocks, your investment decision must be backed by astute market research.

Real estate investing is not something you can approach on a trial and error basis. Hope and luck are unlikely to deliver returns. Owning a rental property or operating as a home flipper carries risks. Your borrowing costs, repairs and maintenance, insurance and taxes are not going to wait if the market goes bad and you have a high vacancy rate. You’ll need the skills and knowledge to evaluate properties, predict market trends, manage your cash flow, and deal with tenants.

Risks of liability, risks of taking on too much debt, unforeseen repair and maintenance issues, changes in regulations, and macro-economic risks must be objectively considered before you take the plunge.

Never base your estimated returns from a property on “ifs”. Answer some tough questions before you start as an investor. “Will I survive if this property performs 30 percent lower than the current market trends?” “Do I have an exit strategy in place?” These are questions you’ll need to answer before investing in real estate.

Real Estate Investments: Final Thoughts

Real estate investment can be a powerful way to create wealth, but it usually involves more intricacies than stocks and mutual funds, and the investment size is often large. It’s not always easy to sell real estate investments and the costs can be considerable. An impulsive investment could leave you with a property with large continuing expenses and a declining value. You’ll also have to watch for real estate investment scams and real estate seminar scams.

As with any investment, you’ll have to consider opportunity cost: real estate can be a good investment, but is it the most profitable use of the money you have to invest? Consider alternative ways of investing in real estate with little money or other investment classes before committing to this, and decide what percentage of your portfolio you want to allocate to real estate investing.

Begin with realistic expectations and recognize that you won’t start building wealth overnight. Learn to identify and evaluate various real estate investment options and make well-considered decisions that match your risk tolerance and the amount you have to invest. Real estate investment can be a great way to build income and generate long-term value, but the risks are real, and avoiding them takes expertise and commitment.

Real Estate Investing For Beginners is a part of our guide Alternative Investments For Beginners. Read up on other popular types of alternative investments:

• Investing in Art: (When) Is Art a Good Investment?
• Real Estate Investing For Beginners
• Investing in an Online Business 
• Investing in Commodities
• Crypto Interest Accounts
• Investing in Collectibles

The post How to Start Investing In Real Estate: Six Top Strategies appeared first on FinMasters.

In this post:

• How Investing is Different from Saving
• When Should You Consider Investing?
• The Risk-Reward Relationship
• Asset Allocation
• Asset Diversification
• Active vs. Passive Investing
• Income vs. Value vs. Growth Investing
• Investment Instruments
• Alternative Investments
• What is a Broker and Why Do You Need One?
• Start with Education

How Investing is Different from Saving

Investing involves committing a sum of money (usually for the long haul) with the aim of earning an attractive return. The objectives of investing are increasing your income, building wealth, and securing your financial future.

Saving, on the other hand, is setting aside a part of your income consistently to create a financial cushion. People typically like to save money to make a larger purchase, such as a car, a home improvement project, a vacation with family, or to cover unforeseen expenses, such as surgery or repairing a damaged roof.

Saving is usually done by placing funds in a bank savings account, money market account, or Certificate of Deposit (CD). The Federal Deposit Insurance Corporation (FDIC) insures these products, making them highly secure.

Investing is riskier than saving. There’s no insurance. Investments do not produce guaranteed returns. However, while saving is secure, the interest you earn may not even be enough to compensate for inflation. You could actually be losing money over the long haul. Investing offers the possibility of significant long-term growth.

When Should You Consider Investing?

Any beginner should ideally start investing only after the following two crucial items have been taken care of:

Clear Your Credit Card Debt

The interest rate on your credit card debt is almost always going to be higher than the return you might consistently earn on an investment. If you’re carrying significant credit card debt, the smartest investment would be to pay that debt off first.

Clear your high-interest debts before committing money to investments.

Build an Adequate Emergency Fund

Shakespeare said that sorrows do not come like a single soldier, they come in battalions. Illness, natural disasters, layoffs, and other financial emergencies can arise without any forewarning. You should have an emergency fund that will cover your living expenses for at least six months. 

Investing works best when you have a significant time horizon. A good rule of thumb is to invest money that you won’t need to use for at least five years. If you keep this money in a savings account inflation will chew away its value. Invest it prudently and there’s a good chance that your money will grow.

The Risk-Reward Relationship

Risk is an inherent part of investing. You will have to assess the degree of risk you are willing to undertake. You’ll need to decide whether the expected rewards are worth that risk. A clear understanding of the risk-reward relationship is indispensable to building a successful and sustainable investing strategy.

Higher potential rewards usually come with higher risks. Volatile stocks can rise quickly and fall just as fast. High-risk bonds pay higher interest rates. If the potential reward of an investment is high, you can expect that the risk is also high.

Different asset classes, such as stocks, mutual funds and ETFs, bonds, and alternative investments have their risk-reward profile. You need to clearly understand the distinctions between them.

Risk Tolerance and How to Assess It

One of the key evaluations in investing for beginners is to discover your risk tolerance level. High-risk portfolios are often tempting because they can produce large returns. They can also produce large losses. It is critically important to consider the downside risks. Are you prepared for your investment to go to zero if things go wrong?

In simple words, your risk tolerance level is one that allows you to sleep soundly at night. If your investment exposure is causing you a persistent worry, it is not worth it. At the end of the day, investing is a highly personal and lonely journey for an investor. An extremely aggressive approach could make you rich very fast, but it could also wipe out your life’s savings.

On the other hand, an excessively risk-averse approach will limit your growth potential. Striking the right balance between risk and reward is one of the key challenges of investing for beginners.

#Investing 101: Investing For Beginners

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Asset Allocation

An investment portfolio should preferably have allocations for multiple asset classes. Asset classes include stocks and mutual funds, bonds, and cash. Your risk tolerance levels and your investing time horizon are two major factors that will influence your asset allocation.

Why Does Asset Allocation Matter?

Allocating your funds to different asset classes within your investment portfolio gives you additional protection against market fluctuations. In general, when one class of assets is doing very well, the other asset classes may only deliver ordinary or even negative returns because most investors are going after the asset class, which is in high demand.

If you encounter poor returns in one asset class, you can often make up for it in another asset class.

Asset Diversification

Diversification of your investment portfolio should occur at two levels: within each asset class and between or among asset classes. In other words, apart from asset allocation (which itself is a form of diversification), you can also spread your risk by investing in diverse items within a particular asset class.

Achieving the right diversification and keeping a track of each item in the portfolio can be complicated and time-consuming. Investing for beginners is often easiest when you diversify through ownership of ETFs, mutual funds, or index funds rather than individual stocks. Each fund owns a large number of stocks. That allows you to build a diverse portfolio without committing a large sum of money.

Active vs. Passive Investing

Active investing is for hands-on investors who manage their own portfolios the way a professional portfolio manager would. As an active investor, your objective would be to earn returns that are on par with or better than the average market returns. Your goal is to maximize your advantage from short-term volatility in the markets.

Active investing demands astute market knowledge, dispassionate analysis, and the temperament to enter and exit specific investments with discipline. Active investing requires expertise and discipline. It also requires a significant commitment of time and energy. You will have to monitor your portfolio on a daily basis. Studying potential new investments and keeping up with market conditions affecting your existing investments requires time, effort, and knowledge.

Passive investing, on the other hand, requires a long-term approach. This is often an ideal investment strategy for beginners. You will have to make fewer decisions (not buying and selling frequently). That means you reduce your chances of being wrong. It is also cost-effective because fewer transactions mean lower transaction costs.

Passive investing works when you are willing to adopt a buy-and-hold strategy. Patience is the strength of a passive investor. A popular example of passive investing is buying an index fund, which follows the S&P 500 or another major index such as Dow Jones Industrial Average. The prize in passive investing usually goes to investors who can stay calm and focus on their long-term goals.

Income vs. Value vs. Growth Investing

There are several distinct approaches to selecting stock investments.

• Income investing requires you to focus on stocks that have historically been high dividend payers. Companies that generate a lot of cash, but do not have many new avenues to invest that cash (for growth) may want to distribute higher dividends among the shareholders. Many well-established companies that don’t have a lot of room to grow rely on dividends to attract investors. Dividend-bearing stocks often hold their value when markets decline, because investors look to the security of that income.
• Value investing involves identifying companies with stock values that are lower than their fundamental indicators would suggest that they should be. This often involves finding strong companies in sectors that have been beaten down by events like the recent pandemic. These stocks can grow in value as the market recognizes their fundamental strength.
• Growth investing involves choosing stocks of companies with high growth potential. These companies may not have strong current cash flows and profits. Their appeal is that they are expected to grow exponentially in the foreseeable future and deliver exceptional returns on capital.

You need to be careful about highly publicized growth stocks: the expected growth may already be reflected in the price.

None of these methods is inherently better than the others. You have to balance them is a way that suits your needs.

Which Approach Is the Best One for You?

You can achieve your financial objectives through any of these investment types, or a mix of all three.

If your risk tolerance is higher, you are relatively young, and you have a significant personal income, you could increase your exposure to growth companies.

As your portfolio matures you might want to add value stocks.

If you are more conservative or nearing your retirement, or have a limited income, you may prefer dividend investing to boost your income.

Growth, value, and income mutual funds and ETFs (exchanged-traded funds) may also be a good choice if you want a blend of both types of stocks in your portfolio. This can provide you with some short-term income while also generating long-term growth from a part of your portfolio.

Investment Instruments

You will need to understand the investment instruments that are available to you. The three basic types are stocks, bonds, and mutual funds. The risk profile of each instrument can vary. Understanding each instrument will help you build a blend that suits you best.

Stocks

A stock is a security that represents proportionate ownership of the company that has issued the stock. Stocks are a part of most investment portfolios because historically investors have earned superior returns over time in stocks compared to most other asset classes.

It’s important to understand the risk-reward ratio and be judicious about stocks. These investments are inherently volatile.

Our complete guide to stock investing basics: Stock Investing For Beginners

Bonds

A bond is an instrument of debt, which represents a loan that an investor has issued to a borrower. When you invest in bonds, you are basically lending your funds to a government entity (such as a municipality) or a private corporation, depending on the type of bonds you purchase.

Rating agencies such as Standard & Poors and Moody’s assign ratings to bonds. Risky bonds have to pay higher interest rates to attract investors: the higher the bond rating, the lower the interest rate.

Bonds are usually considered a safer investment compared to stocks, but yields may be low, especially when prevailing interest rates are as low as they are in early 2021.

Our complete guide to bond investing basics: Bond Investing For Beginners

Funds

Mutual funds and Exchange-Traded funds (ETFs) are diversified baskets of stocks or bonds, each managed by a professional portfolio management firm for a fee.

Many beginner investors choose funds because they do not have to use individual investing skills or track their stock portfolio. When you invest in a fund, your money is put to work without you having to engage directly in the everyday investing process.

Many funds have management fees, and you’ll need to compare those when selecting funds.

Our complete guide to mutual fund investing basics: Mutual Fund Investing For Beginners

Alternative Investments

As the name suggests, alternative investments are non-mainstream asset categories that usually entail significant risk but may also deliver exceptional returns. The universe of alternative investments is expanding and now also includes complex assets such as cryptocurrencies. Some prominent alternative investments include:

• Real Estate: You do not necessarily have to invest in big-ticket residential or commercial investment properties. You may buy shares in REITs (real estate investment trusts), which work like mutual funds, and are traded like stocks.
• Hedge Funds and PE Funds: These alternative investment vehicles are usually available only to high net worth or accredited investors, who are willing to make large investments. These investments may deliver “alpha” returns but the downside risks are also huge.
• Commodities: Tangible assets, such as gold, silver, oil, and agro products are called commodities, which may be considered for portfolio diversification.

Alternative investments can be profitable, but they often require a high degree of expertise. They may also require substantial amounts of capital. They are usually not suitable for beginning investors.

What is a Broker and Why do You Need One?

When you want to invest, you will usually require a broker. Brokers are professionals who have been licensed to engage in stock trading with a securities exchange. Depending on your investing needs, you may decide whether you want to work with a discount broker or a full-service broker.

Full-service brokers usually represent licensed brokerage firms that can offer you personalized investment advice based on your investment goals.

A discount broker, on the other hand, will not provide you portfolio advice, but simply execute your stock trades. Numerous online discount brokers are available, offering various levels of service.

Many discount brokers offer “robo-advisor” services, which use algorithms to select investments according to your designated risk tolerance or other specifications. These can be excellent choices for beginning investors who are not yet confident in their own ability to select appropriate investments.

Investing for beginners often starts with a retirement plan. If you have a 401(k) or IRA your plan provider also serves as your broker.

Start with Education

Investing for beginners starts with acquiring a basic understanding of the principles of investing. While you need to know what you are doing as an investor, it is often more important to know what not to do. You need to stay away from investments that you do not understand. Remember the words of the legendary investor Charlie Munger, who famously said: “If I know where I’m going to die, I will not go there.”

Start with simple investments, and rely on genuine advice from accomplished investment professionals, while staying away from “hot tips” and “get rich quick” ideas from sources with vested interests. There are many investment scams out there but with common sense, they are easily avoided. If it sounds too good to be true, it’s not true!

Investing for beginners is not about getting rich quickly. A conservative approach and a long-term time horizon are generally more profitable and less risky than a “get rich quick” approach. As with baseball, playing good defense and hitting a lot of singles will win more games than swinging for a home run every time you step up to the plate!

The post Investing for Beginners: A Complete Guide appeared first on FinMasters.

In this article, we’ll look at what stocks are and how stock markets function. We’ll then review some strategies to balance risk and reward according to your financial goals.

Let’s begin!

In this post:

• What are Stocks?
• What Type of Investor are You?
• Types of Online Brokers
• Investing in Stocks Through Your Retirement Account
• Mutual Funds vs. Stocks
• Value vs. Growth Investing
• What is Your Risk Tolerance?
• Diversification Can Cut Down Your Risks
• Can You Invest On a Limited Budget?
• Investing for the Long Term
• Is Stock Investing Worthwhile?

What are Stocks?

A stock is an equity investment that gives you part ownership in a company. It entitles you to have a share in the company’s profits in proportion to your stock holding. Each share also carries voting rights.

There are two ways to gain from a stock investment:

1. The value of your investment may increase if the stock price goes up. If you sell the stock for a higher price than you paid for it, you make money.
2. Some companies also pay regular dividends, which distribute profits directly to investors.

Returns from price increases and dividend payments are not guaranteed and are subject to market risks and fluctuations.

Stocks can decline in value, and investors can lose money, especially in the short term. This makes stock investing for beginners a tricky business. It’s vital to acquire some understanding of stock investing before you start buying stocks.

What Type of Investor Are You?

To begin with, you must ask yourself what kind of stock investor you want to be.

Neither of these types is better than the other. Your choice will depend on how much time and effort you want to spend learning about investing and managing your portfolio. Either approach can be successful and satisfactory.

Our complete guide to investing basics: Investing For Beginners

Types of Online Brokers

If you want to buy stocks you will need a broker: you cannot buy stocks on your own. Stock investing for beginners usually starts with an online broker. Most online brokers will let you invest in individual stocks, bonds, mutual funds, index funds, and ETFs (exchange-traded funds).

You can choose between a full-service and a discount broker.

Investing in Stocks Through Your Retirement Account

Tax-advantaged retirement accounts are one of the most popular ways to begin investing. If your employer offers a 401(k) plan, you can invest a portion of your monthly salary into the plan. Your employer may match a portion of your contribution.

If your employer does not offer a 401(k) or if you are self-employed or a business owner, you’ll probably need to consider some 401(k) alternatives. There are several types of 401(k) plans and IRAs, all with different rules and requirements. If you’re selecting your own plan, you’ll need to become familiar with the tax rules governing each type. Most let you select from a range of mutual funds and other investments, which usually include stock funds.

Once you are comfortable with investing in this manner, you could consider increasing your contributions as your salary grows. If your employer offers to match a portion of your contribution, do your best to contribute enough to get the full match. That’s free money!

If you have a retirement account, you are probably already investing in stocks through the allocations made to mutual funds.

Mutual Funds vs. Stocks

Beginners need to understand the difference between funds and individual stocks. An individual stock is an investment in one corporation, while a fund would be invested in a package of dozens or hundreds of stocks.

Funds

Funds include both mutual funds, which are actively managed by a mutual fund company, and Exchange-Traded Funds or ETFs, which can be traded like stocks. Each has advantages and disadvantages, and you’ll want to read up on the differences between them

Funds allow you to hold a large number of stocks even with a relatively small investment, which can help to reduce your risks. Many types of funds are available, from index funds that track broad market indices to funds specializing in particular types of stocks, market sectors, or even countries. In each case, your investment will be made by professionals on your behalf.

Funds charge management fees, which can vary widely. You’ll have to compare funds carefully before choosing.

Learn what mutual funds are and why mutual fund investing for beginners is so appealing: Mutual Fund Investing for Beginners

Individual Stocks

You may choose to build your own stock portfolio by directly picking stocks of specific corporations. This approach may allow higher gains, but it can also expose you to higher risks. Here are some of the pros and cons of investing through individual stocks:

PROS

• Gives you full control over the types of companies you want to invest in.
• Highly liquid investment.
• No ongoing or annual management fees.
• Easier tax management because of greater control over capital gains (you can decide when you want to buy or sell).

CONS

• Risks could be higher than mutual funds, especially for beginners.
• If you are holding many stocks it can be hard to keep a track of each company’s performance.
• Individual stock investing requires dedicated time for research and evaluation of companies as well as for efficient portfolio management.
• Commissions are usually payable on each transaction.

In general, passive investors will prefer funds and active investors will lean toward picking individual stocks. You can combine the two approaches.

Value vs. Growth Investing

Value and growth are two primary investing styles or approaches. Stock investing for beginners requires a clear understanding of both.

Both of these approaches require meticulous analysis. Evaluating a company’s fundamental worth or growth prospects may require extensive research and a strong understanding of a company and its business.

What is Your Risk Tolerance?

Risk tolerance is your appetite for uncertainty or your ability to endure market volatility and fluctuations. To assess your own risk tolerance, you should consider factors such as your investing skills, experience, personal investment goals, how much time you are willing to dedicate to investing, your overall financial status, and your financial responsibilities.

Stock Investing For Beginners #investing #stocks

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A realistic evaluation of your capacity to stomach major market downturns for extended periods of time will help you determine your actual risk tolerance. In general, investment advisors associate risk tolerance with age, although it is not the sole factor. The thinking behind this is that younger people have a longer time horizon and have a stronger future earning capacity to survive stock market downturns. Older people have less time to wait for a market recovery. They may be more reluctant to risk a drop in that value of a portfolio they’ve been building for years.

Depending on your degree of risk tolerance, you may choose between individual stocks, bonds, mutual funds and ETFs. You may also choose to balance your stock holdings with other investments. Investors with a higher net worth might typically be in a position to afford bigger investment risks.

Diversification Can Cut Down Your Risks

Conventional wisdom suggests that you can reduce your risk level by spreading your investments out, rather than putting all your eggs in a few baskets. The future of even the best-performing companies and stocks is uncertain, and unexpected events could reduce the value of your investment in a particular stock. 

A diversified stock portfolio protects you against this risk to a great extent, as long as you have chosen a mix of established companies with a long track record of performance.

ETFs and mutual funds are often the ideal choices when you want to mitigate your risks by diversifying your stock portfolio.

Learn what bonds are and why bond investing is another key part of a diversified portfolio: Bond Investing for Beginners

Can You Invest On a Limited Budget?

You can start investing in stocks with a small amount of money. Many well-established companies have shares that cost only a few dollars. Some brokers offer fractional shares, which allow you to buy a portion of a share of a higher-priced stock.

If you have a small budget but do not want to buy individual stocks, you could consider investing in an ETF. While mutual funds may usually require you to invest at least $1,000 or more, you can buy into an ETF for the price of an individual share, which could be as low as $100 or even less.

Don’t let limited funds deter you from investing. There’s nothing wrong with starting small. You can add to your investments as time goes by.

Investing for the Long Term

A long-term approach is usually the best start to stock investing for beginners. Some of the most successful stock investors in history have advocated long-term investing.

For beginners, that usually means investing in mutual funds, ETFs, and low-cost index funds. According to seasoned investors, the average American could benefit the most over time by investing in a low-cost S&P 500 index fund. You should go for individual stocks only if you strongly believe in the long-term future of the company and think that it is its current market valuation is attractive.

For most investors, getting started with individual stocks, mutual funds or ETFs is not difficult. The hard part comes when you have to hold your investments for the long term. The power of compounding will work in your favor only if you allow your investments to compound. Short-term market gains or losses should not tempt you to act impulsively on a good investment. Markets do fall, but they rise again. Staying the course has always produced rewards.

Is Stock Investing Worthwhile?

The journey of a thousand miles begins with a single step. Investing in high-quality stocks is an ideal way to build and grow wealth. Success is not guaranteed in stock markets, but you can dramatically increase your chances of success if you are prepared to invest for the long-term.

As a thumb rule, your stock investments should use funds that you do not need for the next five years. Stock investing for beginners and experts alike is not a speculative activity that delivers overnight gains. When you buy stocks, you are buying a piece of a business. That business needs time to grow and produce sustainable returns. So, with the right investing mindset, you can get on the road of wealth creation.

The post Stock Investing for Beginners: A Quick-Start Guide appeared first on FinMasters.

When you buy a bond, you are lending money to the entity that issued the bond. You receive interest payments in return. You can hold the bond until it matures and then get your money back, or you can sell it before maturity. 

Here’s everything you need to know before you start investing in bonds.

In this post:

• Types of Bonds
• Key Concepts
• Bond Prices and Interest Rates
• Bond Ratings, Risk, and Yield
• Managing Risk through Bond Diversification
• Bond Funds and ETFs
• Bond Fees
• Risks of Bond Investing
• Should You Invest in Bonds?

Types of Bonds

You can invest in different types of bonds, depending on your portfolio requirements and your risk appetite. The major bond types that you should consider include: 

About Bonds: the Key Concepts

It is important to understand the features that distinguish different types of bonds. This will help you make choices that match your investment needs.

Maturity

The maturity date of a bond is a key consideration because individual investment horizons may differ. On the date of maturity, the issuer’s bond obligation is over, and you will get back the principal amount of the bond.

Short-term bonds typically mature within three years, while medium-term and long-term bonds may have a maturity date of more than 10 years. 

Secured vs. Unsecured Bonds

If a bond is secured, the issuer will pledge certain assets as collateral to the investors. If the issuer defaults on their repayment obligation the collateral can be used to pay the debt.

Unsecured bonds, also known as debentures, do not have any collateral backing them. As a result, the risk of the bondholder is significantly higher. 

Coupon

The yearly or half-yearly interest paid on the bond to the investors is represented by the coupon amount. The coupon is also known as the nominal yield or the coupon rate of the bond.

To calculate a particular bond’s coupon rate, you can simply divide the yearly interest payment amount by the bond’s face value. 

Taxation

When comparing the actual yield between two types of bonds, you should always factor in the taxation. 

Treasury bonds are tax-exempt. Municipal bonds are sometimes tax-exempt. In a tax-exempt bond, both the interest income and any capital gain from selling the bond will not attract any tax. However, the interest rates for tax-exempt bonds are usually lower.

Corporate bonds are almost always a taxable investment, but their interest rates are usually higher.

Callability

Some types of bonds can be paid off by the issuer before maturity. If the prevailing interest rate environment allows the bond issuer to borrow at a lower rate, they may choose to call these bonds. From the bondholder’s perspective, the advantage of callable bonds is that the coupon rate will usually be more attractive. 

You will hear these terms in any discussion of bonds. Understanding them will help you select the right bonds for your portfolio.

Our complete guide to investing basics: Investing For Beginners

Bond Prices and Interest Rates

Bond investing is closely tied to interest rates. Interest is how you earn money on bonds, and understanding interest is a core part of understanding bonds.

You can also understand the correlation between bonds and interest rates in terms of price and yield. The yield represents the return on the bond investment expressed as an annual percentage. The price is the current market value of the bond, which is based on the amount of the bond and the expected interest income for the remaining time until maturity.

Bond Ratings, Risk, and Yield

Globally recognized ratings agencies, such as Standard & Poor’s, Moody’s, and Fitch independently evaluate how creditworthy a particular bond is. These raters use multiple parameters to assess the bond issuer’s financial health and assign ratings. Any downgrade or upgrade in ratings can affect the market price of the bonds.

Bond ratings fall into two broad categories: 

• Investment-grade bonds have a rating of Baa3/BBB- or higher.
• High-yield or junk bonds have a rating of Ba1/BB+ or below. 

The first rule of bond investing for beginners is to assess a bond’s risk tolerance and consider the possibility of payment default before investing.

Non-investment grade bonds or junk bonds pay high interest rates, and may catch the fancy of many new investors.

Junk bonds can seem like a compelling proposition when you consider the promise of receiving substantial checks in the mail. However, if the issuer goes bankrupt, you may stand to lose your entire investment. If you are not sure of what you are doing, play safe and stick to AAA-rated bonds. 

Different rating companies use different rating systems, so you may see ratings that seem different. Understanding bond ratings will give you a better picture of how bonds are evaluated.

Investing 101: Bond Investing For Beginners

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Managing Risk Through Bond Diversification

Bond diversification is a logical way to spread your risk, particularly if you have a significantly large bond portfolio. You could diversify your portfolio by choosing bonds from different geographies (within and outside the US), different types (government, municipal, corporate, zero-coupon, callable, and inflation-protected), maturity period, and credit quality (bond rating).

Considering the relative safety of US government and municipal bonds, and the inherently lower volatility in this asset class, even a less diversified bond portfolio could sometimes serve the purpose in your overall investment portfolio.

If you are retired or only a few years away from retirement, it is usually better to minimize your risk rather than trying to maximize yield.

Bond Funds and ETFs

Bond investing for beginners as well as for more experienced investors can be simplified when you invest through bond funds and ETFs. A bond mutual fund, popularly known as bond fund, will pool money from a large number of investors to buy bonds. This provides diversification and professional fund management to an individual investor. 

A bond fund may specialize in municipal bonds, corporate bonds, or non-investment grade bonds.

It is also possible to invest in bond ETFs, which an individual investor can buy just like stocks. If you are looking for a more effective risk-reward approach to bond investing, a bond ETF might be a judicious choice. 

Our complete guide to mutual fund investing basics: Mutual Fund Investing For Beginners

Bond Fees

The relative financial performance of a bond fund will be affected by the fee you may have to pay, especially when the prevailing interest rates are low.

Active bond funds are being regularly traded, called, and maturing. Active fund managers will charge a higher fee, and may sometimes struggle to add value over and above the higher expense ratio.

Passively managed funds, on the other hand, will mostly have a low turnover. Passive bond funds will have a lower cost because of their minimal management expenses. 

Each time you sell or buy a bond, you pay a commission known as a bond spread. Higher bond spreads can reduce your returns. 

Risks of Bond Investing 

Bonds are an excellent investment vehicle, especially when you want to generate an income. However, bond investing for beginners requires that you learn of the potential risks and pitfalls of different types of bonds. Here are some of the key risks that you should take into account before investing in bonds: 

Interest Rate Risks 

If the interest rates start increasing, your existing bond investments may start losing their market value. That’s because new bond issuances at higher interest rates will be more attractive for investors compared to your existing bonds, which you locked in at lower rates.  

Callable Bond Risks 

In a market environment where the interest rates are falling, the issuer of callable bonds may exercise the option to call the bonds. This way the issuer no longer has to pay you the high interest which you have originally locked-in. In this situation, you could be left with excess cash that you may find difficult to reinvest at a comparable interest rate.

Risks of Bond Default 

When you invest in bonds, you are simply lending money to the issuer as debt. If the bond issuer goes bankrupt, you could lose your entire principal amount invested. Corporate bonds, in particular, are inherently risky. They are not guaranteed by the US government or any government entity. You are solely dependent on the bond issuer’s ability to repay.

Should You Invest in Bonds?

If you have your finances under control and you are committed to learning and investing responsibly, investing in bonds can be a good decision. Before you go ahead with a particular bond investment, you must carefully weigh whether it is in sync with your portfolio goals and investment philosophy. When you want to mitigate the volatility in your portfolio or create a steady income, investing in bonds may be a prudent choice.

Younger investors often give more weight to stocks rather than bonds in their portfolio. As you near your retirement, the balance should probably tilt more in favor of bonds. Your financial position, income levels age, and risk tolerance all influence your bond allocation.    

Our complete guide to stock investing basics: Stock Investing For Beginners

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