You want to learn how to start investing. Congratulations! Taking this first step is one of the most important things you can do for yourself and, in many cases, your family. Implemented wisely and with enough time to let compounding work its magic, it can lead to a life of financial independence as you spend your time pursuing your passions rather than selling your time, supported bypassive income from things such as dividends, interest, and rents.
In this article, I want to explain some of the ways many new investors begin their journey. As we dive in and I cover some of the potential structures and mechanisms through which you might decide to take your first steps, I want you to remember this: Do not despise the day of small beginnings. Everyone had to start somewhere. You’ll be amazed by how better off you can be over time as seemingly small steps to improve your situation result in bigger and bigger results.
The First Step In Figuring Out How To Invest Is Deciding Which Types of Assets You Want To Own
At its core, investing is about laying out money today expecting to get more money back in the future which, accounting for time, adjusting for risk, and factoring in inflation, results in a satisfactory compound annual growth rate, particularly as compared to standards considered a “good” investment.
Most of the time, this is best achieved through the acquisition of productive assets. Productive assets are investments that internally throw off surplus money from some sort of activity. For example, if you buy a painting, it isn’t a productive asset. One hundred years from now, you’ll still only own the painting, which may or may not be worth more or less money. On the other hand, if you buy an apartment building, you’ll not only have the building, but all of the cash it produced from rent and service income over that century. Even if the building were destroyed, you still have the cash flow, which you could have used to support your lifestyle, given to charity, or reinvested in other opportunities.
Each type of productive asset has its own pros and cons, unique quirks, legal traditions, tax rules, and other relevant details. You might find yourself drawn to one, the other, or some combination of investments based on your existing resources, knowledge, temperament, and even the opportunities available in one asset class at any given time compared to another. Here is a quick rundown of some of the potential investments you might make as you start your journey:
Business Equity – When you own equity in a business, you are entitled to a share of the profit or losses generated by that company’s operating activity. Whether you decide to own that equity by acquiring a small business outright or buying shares of a publicly traded business through the purchase of stock, business equity has historically been the most rewarding asset class for investors. So much so that it has been wisely observed that a good business is the gift that keeps on giving. True, investing in business equity can be enormously risky – you’re running a successful bookstore for decades and suddenly technology results in the rise of not only Amazon but electronic books such as the Kindle, putting your firm into bankruptcy – but it can generate wealth beyond imagining.
Fixed Income Securities – When you buy a fixed income security, you are really lending money to the bond issuer in exchange for interest income. There are a myriad of ways you can do it, from buying certificates of deposit and money markets to corporate bonds, tax-free municipal bonds toU.S. savings bonds.
Real Estate – Perhaps the oldest and most easily understood (though far from simple) asset class investors may consider is real estate. There areseveral ways to make money investing in real estate but it typically comes down to either developing something and selling it for a profit or owning something and letting others use it in exchange for rent or lease payments. For a lot of investors, real estate has been a path to wealth because it more easily lends itself, if you’ll pardon the pun, to using leverage. This can be bad if the investment turns out to be a poor one but, applied to the right investment, at the right price, and on the right terms, it can allow someone without a lot of net worth rapid accumulation of resources, controlling a far larger asset base than he or she could otherwise afford.
Intangible Property and Rights – Personally, I adore this asset class when it is done right because you can create things out of thing air that go on to print money for you. Intangible property includes everything from trademarks and patents to music royalties and copyrights. I’m particularly fond of the latter.
Farmland or Other Commodity-Producing Goods – Although it often involves real estate, investments in commodity-producing activities are fundamentally different in that you are either producing or extracting something from the ground or nature, often improving it, and selling it for what you hope is a profit. If oil is discovered on your land, you can extract it and take cash from the sales. If you grow corn, you can sell it, increasing your cash with every successful season. The dangers are significant – bad weather, disasters, and other challenges can and have caused folks to go bankrupt by investing in this asset class – but so, too, can be the rewards.
The Next Step In Figuring Out How to Invest Your Money Is To Decide How You Want To Own Those Assets
Once you’ve settled on the asset class you want to own, you next to decide how you are going to own it. To better understand this point, let’s look at business equity. If you decide you want a stake in a publicly traded business, do you want the shares outright or through a pooled structure?
Outright Ownership – If you opt for outright ownership, you are going to be buying shares of individual companies directly so that you see them somewhere on your balance sheet or the balance sheet of an entity you control.
Pooled Ownership – You mix your money with other people and buy ownership through a shared structure or entity.
The Third Step In Figuring Out How to Invest is Deciding Where You Want To Hold Those Assets
After you’ve decided the way you want to acquire your investment assets, next, you have to decide how you want to hold those assets. This can have major, sometimes life-changing consequences for your family, including your children, grandchildren, and other heirs. A little bit of good planning in the beginning can mean enormously beneficial outcomes later.
Taxable Accounts – If you opt for taxable accounts, such as a brokerage account, you will pay taxes along the way but your money is not restricted. You can spend it on whatever you want, however you want. You can cash it all in and buy a beach house. You can add as much as you want to it each year, without limit. It is the ultimate in flexibility but you have to give Uncle Sam his cut.
Tax Shelters – If you invest through things like a 401(k) plan at work and/or a Roth IRA personally, there are numerous asset protection and tax benefits. Some retirement plans and accounts have unlimited bankruptcy protection, meaning if you suffer a medical disaster or some other event that wipes out your personal balance sheet, you can walk away with your investment capital still compounding for you beyond the reach of creditors.
Trusts or Other Asset Protection Mechanisms – Another way to hold your investments is through entities or structures such as trust funds.