TYPES OF INVESTMENTS

The money that you put in a retirement account or brokerage account should be invested. You can invest in mutual funds, ETFs, stocks, or bonds.

  1. Stocks, are shares of a company that you can buy or sell on a stock exchange. When you buy shares in a company, you have partial ownership of that company.

  2. Mutual funds and ETFs are both “baskets” of stocks. These baskets of stocks are an attractive option for new and seasoned investors, because they include stocks from many different companies.

  3. Bonds are a loan made by an investor to a borrower that offers a fixed income. These are lower risk investments, historically offer lower returns than stocks, mutual funds, or ETFs.

Stocks

Individual stocks represent owning a piece of a publicly traded company. Publicly traded means it is a company that is listed on one of the stock exchanges, and that anyone can invest their money in the company by buying a share(s), giving them partial ownership of the company. When you own shares in a company you become a shareholder.

Stocks can also pay dividends, a share of the profit paid to shareholders.

From a financial security point of view, buying individual stocks is risky, because the value of the shares is dependent on the performance of that one company. If the company does well, the value of your shares will go up. If you sell the shares for a higher price than you paid for them, you will collect a profit, or a capital gain.

Mutual Funds and ETFs

There’s very little difference between mutual funds and ETFs, other than how they are traded, and how they are managed.

The common factor is that these are “baskets” of stocks. This makes them easy choices for new investors. Instead of researching individual companies and trying to diversify your portfolio through buying shares in many individual companies, you can choose to buy into one of these funds, and invest in MANY companies in one fund. This mitigates your risk. When one company’s share price drops, the impact will be reduced as another company’s share price can be going up.

These funds are less risky because you are buying shares of a fund that is made up of many companies.

Mutual funds typically have a minimum dollar amount to buy in, you can automate investments, you buy and sell in dollar amounts instead of number of shares, and they are traded at the end of the day.

ETFs (Exchange Traded Funds), typically are purchased by number of shares, and there is no minimum to buy in, other than the cost of a single share. ETFs are traded on the stock market during the trading day.

Types of Stock Funds

Bonds

A bond is a fixed-income investment that is a loan by the investor to the borrower. The investor or lender is paid an interest rate for that loan. That interest rate is known as the coupon rate.

Bonds are considered lower risk investments than stocks or stock funds. The type of bond dictates the level of risk.

Corporate bonds - highest risk

Municipal bonds - medium risk

Treasury securities (bills, notes, bonds) - lowest risk

Treasury bonds, are considered virtually risk-free, as the government is unlikely to default on its loan.

Bonds are a good choice for investors that want to preserve capital, or protect their initial investment amount. Federal and municipal bonds have special tax benefits as well.

Investment FAQs

What is a stock market index?

In finance, a stock index, or stock market index, is an index that measures a stock market, or a subset of the stock market, that helps investors compare current price levels with past prices to calculate market performance. We will use the S&P 500 as an example. Standard & Poor’s 500 Index is an index that tracks the performance of the 500 largest companies traded on the US stock exchanges. 

There are many other indexes (approximately 5000!) Russell 1000, Dow Jones Industrial Average, Nasdaq Composite, Wilshire 5000…. Choosing an ETF or a mutual fund that invests in a stock market index, (which is what most ETFs and mutual funds do), is an easy entry to investing.

How do people lose money in the stock market?

It can be scary to invest your money in the stock market. The price of shares will go up and down. It’s important to remember that you don’t “make” or “lose” money until you sell your shares. Part of a successful financial strategy is diversifying your investments, and having a full funded emergency fund, so that you do not need to sell your investments on a market downturn, when share prices are down. If all of your money is in stocks and you need your money during a downturn, you may end up losing money in the stock market.

What is an Exchange Traded Fund (ETF)?

A basket of stocks, typically representative of companies in a stock index, like the S&P 500. When you buy into an ETF, you’re buying shares of the ETF. ETFs are traded throughout the day on stock exchanges. Unlike a mutual fund, there’s no minimum investment making ETFs an easy choice for newer investors.

Examples:

The Vanguard 500 Index Fund ETF (VOO), is currently trading around $378. You will need $378 to buy a share of VOO. 

The Vanguard Russell 1000 Growth Index Fund (VONG) is trading around $60 a share. You will need $60 to buy a share of this fund.

What is a Mutual Fund?

Mutual Funds look a lot like ETFs. The difference is how they’re traded - at the end of the day. Typically there’s a minimum to buy into the fund. Once you’ve bought in, you don’t need to buy whole shares. You can use dollar amounts, $10, $20, $37, whatever you like. This offers more ease if you’re interested in automating your investments to a set dollar amount. There are many mutual funds that are also available as ETFs. Mutual funds are typically available through the company that creates them, whereas ETFs are available through any company, not just the company that created them.

Examples:

Vanguard 500 Index Admiral Shares (VFIAX). Also available as an ETF (VOO). They are identical investments. As an investment, VOO and VFIAX are completely identical. They hold the exact same collection of stocks (the 500 largest publicly traded companies in the U.S.), they have the exact same dividend yield, and they earn the exact same annual returns. 

Minimum investment $3000. 

Vanguard Growth Index Fund (VIGAX). Also available as an ETF (VUG). VIGAX has a higher 5-year return than VUG (25.18% vs 23.08%). 

Minimum investment $3000.

Expense Ratios

Not to be ignored! The expense ratio is the fee for managing a fund. This is an automatically deducted expense. Higher expense ratios typically mean a more actively managed fund. Lower expense ratios mean a more passively managed fund. Mutual funds may have a slightly higher expense ratio than ETFs. For a fund following an index, there should be a low expense ratio, because there’s not a lot of brainwork required. Higher expense ratios can cut into your growth significantly. As a rule of thumb, you want to shoot for below 1%. Most funds in vanguard are much lower than this. 

Examples:

VOO - 0.03% (ETF)

VFIAX - 0.04% (mutual fund)

VUG - 0.04% (ETF)

VIGAX - 0.05% (mutual fund)

Summary:

Both mutual funds and ETFs are good choices for starting your investment journey. Which you’ll choose depends on how much available cash you have to invest, and how you’d like to continue investing in the long term. 

ETFs - smaller initial investment, cannot automate investments. You can automate investments/deposits into your brokerage account/settlement fund, but you will need to manually buy shares of an ETF once the money is in your account.

Mutual Funds - larger initial investment, you can automate investments, do not need to purchase whole shares once the initial investment minimum is met.