{"id":49286,"date":"2021-09-21T08:34:00","date_gmt":"2021-09-21T12:34:00","guid":{"rendered":"https:\/\/www.shortform.com\/blog\/?p=49286"},"modified":"2021-09-23T13:16:39","modified_gmt":"2021-09-23T17:16:39","slug":"introduction-to-investing","status":"publish","type":"post","link":"https:\/\/www.shortform.com\/blog\/introduction-to-investing\/","title":{"rendered":"Introduction to Investing: The Beginner&#8217;s Guide"},"content":{"rendered":"\n<p>Are you looking for a complete beginner-friendly <a href=\"https:\/\/www.shortform.com\/blog\/best-cryptocurrency-blogs-podcasts\/\">introduction to investing<\/a>? Why do money gurus recommend starting to invest while young\u2014ideally, in your twenties? <\/p>\n\n\n\n<p>Investing is the best way to grow your money into more money, and starting early is crucial to <a href=\"https:\/\/www.shortform.com\/blog\/why-more-is-less\/\">maximizing<\/a> that growth.&nbsp;However, so many young people miss out on lucrative returns by not investing. <\/p>\n\n\n\n<p>In this article, we\u2019ll go through the basics of investing: the <a href=\"https:\/\/www.shortform.com\/blog\/starting-young\/\">benefits of starting young<\/a>, the <a href=\"https:\/\/www.shortform.com\/blog\/types-of-asset-classes\/\">types of asset classes<\/a> you could invest into, and the difference between investing into actively managed mutual funds and passively managed index funds. <\/p>\n\n\n\n<!--more-->\n\n\n\n<h2 class=\"wp-block-heading\"><strong>The Power of Compounding<\/strong><\/h2>\n\n\n\n<p>Investing is the most powerful way to grow your money because it offers a higher rate of return than even the best savings accounts. On average, the stock market\u2019s annual net return is about 8% (after accounting for inflation). That number is an average from decades worth of data, which means that your money will earn an average of 8% per year over the long-term, even if that rate fluctuates in the short-term.&nbsp;<\/p>\n\n\n\n<p>The reason why that 8% rate is so important is <a href=\"https:\/\/www.shortform.com\/blog\/the-power-of-compound-interest\/\">the power of compound interest<\/a>. <strong>With compounding, the interest you earn in a given year is added to the principal (original) amount you invested;<\/strong> then, the following year, you earn interest on that new principal amount.&nbsp;<\/p>\n\n\n\n<ul class=\"wp-block-list\"><li>For example, let\u2019s say you invest $100 in the stock market (to make things easy, we\u2019ll assume an exact 8% annual rate of return). That means that after one year, you\u2019d have earned $8, for a new total of $108. In the second year, you then earn an 8% return on that <em>new<\/em> amount, so you\u2019d earn $8.64 for a new total of $116.64. The longer you leave your money in the stock market, the more that principal grows, and the more you earn every year.<\/li><\/ul>\n\n\n\n<p>Compounding maximizes returns on a one-time investment\u2014but if you keep investing more money at regular intervals, those returns grow exponentially. The more you add, the more your principal grows, which creates a higher total for you to earn an 8% return on. In the table below, you can see the difference after 10 years of investing $10 per week compared to investing $50 per week.&nbsp;<\/p>\n\n\n\n<figure class=\"wp-block-table\"><table><tbody><tr><td>Amount invested per week<\/td><td>Total after 1 year<\/td><td>Total after 5 years<\/td><td>Total after 10 years<\/td><\/tr><tr><td>$10<\/td><td>$541<\/td><td>$3,173<\/td><td>$7,836<\/td><\/tr><tr><td>$20<\/td><td>$1,082<\/td><td>$6,347<\/td><td>$15,672<\/td><\/tr><tr><td>$50<\/td><td>$2,705<\/td><td>$15,867<\/td><td>$39,181<\/td><\/tr><\/tbody><\/table><\/figure>\n\n\n\n<h3 class=\"wp-block-heading\"><strong>The Importance of Starting Young<\/strong><\/h3>\n\n\n\n<p><a href=\"https:\/\/www.shortform.com\/blog\/the-power-of-compounding\/\">The power of compounding<\/a> also means that the longer you leave your money in the market, the more it grows\u2014which means that the earlier you start investing, the more money you\u2019ll have by the time you retire. To see this in action, consider two fictional people who both decide to invest $200 every month.&nbsp;<\/p>\n\n\n\n<ul class=\"wp-block-list\"><li>Sally starts investing at age 35 and keeps actively contributing to her accounts for 10 years (after that, she lets her money grow without actively adding more to it). By the time she\u2019s 65, her accounts will be worth $181,469 (assuming an 8% rate of return).&nbsp;<\/li><li>Dan, on the other hand, doesn\u2019t start investing until he\u2019s 45, but he keeps it up for 20 years. By the time he\u2019s 65, Dan\u2019s accounts will be worth $118,589\u2014<strong>that\u2019s $60,000 <\/strong><strong><em>less<\/em><\/strong><strong> than Sally, even though Dan invested for twice as long!&nbsp;<\/strong><\/li><\/ul>\n\n\n\n<p>(However, this doesn\u2019t mean you shouldn\u2019t start investing if you\u2019re already in your 40s. Your money will still grow\u2014maybe not as much as it would have if you\u2019d started 10 years ago, but <em>far <\/em>more than it will if you never get started at all!)<\/p>\n\n\n\n<h4 class=\"wp-block-heading\"><strong>Invisible Investment Scripts<\/strong><\/h4>\n\n\n\n<p>As we\u2019ve seen, if you start investing when you\u2019re young, you\u2019ll earn tens or even hundreds of thousands more over the course of your lifetime than someone who starts investing later. So why aren\u2019t more young people investing? The answer has to do with the invisible scripts we all have about investing:<\/p>\n\n\n\n<ul class=\"wp-block-list\"><li><strong>\u201cThere\u2019s too much information. I\u2019m overwhelmed.\u201d<\/strong> Remember that you don\u2019t have to be perfect, you just have to get started. Pick one source of information to start with and go from there.<\/li><li><strong>\u201cI don\u2019t know how to time the market.\u201d<\/strong> You don\u2019t have to. Just invest a little bit every week, regardless of what the market\u2019s doing, and you\u2019ll come out on top in the long run.&nbsp;<\/li><li><strong>\u201cInvesting in stocks means giving up control of my money.\u201d <\/strong>It might seem counterintuitive, but this is a good thing. Studies show that consistent, automated investing leads to greater returns than if you try to buy, sell, and trade on your own.<\/li><li><strong>\u201cI don\u2019t know enough to do it right, so I\u2019m better off doing nothing.\u201d <\/strong>Not only are you losing out on the opportunity to grow your money, but doing nothing will actually <em>lose<\/em> you money in the long run because of inflation.<\/li><li><strong>\u201cThe fees are too high.\u201d <\/strong>The fees are only high if you\u2019re actively trading stocks, which you won\u2019t be if you follow Sethi\u2019s advice to automate your investments.&nbsp;<\/li><li><strong>\u201cI don\u2019t make enough money.\u201d <\/strong>It\u2019s hard to think about investing when you\u2019re living paycheck to paycheck, but if you sit down and look at your spending habits, you\u2019ll more than likely find a place where you can cut $10 per week to invest instead.&nbsp;<\/li><\/ul>\n\n\n\n<p>All of these invisible scripts about investing usually have the same outcome: People put off thinking seriously about their finances until their 40s, when they suddenly realize they might not have enough money for retirement. Starting earlier\u2014even if you\u2019re not an expert\u2014will save you years of worry down the line.&nbsp;&nbsp;<\/p>\n\n\n\n<h2 class=\"wp-block-heading\">Understanding <strong>Asset Classes<\/strong><\/h2>\n\n\n\n<p>Start your investing journey by learning more about different asset classes, which are the building blocks of investing.&nbsp;<\/p>\n\n\n\n<p>Asset classes are simply types of investments (like stocks or bonds), and each asset class has varied assets within it. For example, \u201cstocks\u201d is an asset class composed of all kinds of different stocks: large companies, small companies, international companies, and so on. Let\u2019s look at each asset class in more detail, starting with stocks.&nbsp;<\/p>\n\n\n\n<h3 class=\"wp-block-heading\">Stocks<\/h3>\n\n\n\n<p>When you think of investing, you probably think of stocks first. <strong>Stocks are shares of ownership in a particular company.<\/strong> Stocks are one of the most unpredictable investments because their value is determined by the shareholders. For example, if a company seems to be doing really well, more and more people will want to buy stock in that company, which drives up the price of each individual share. But if something happens to shake people\u2019s faith in that company (like a merger or a supply shortage), shareholders will start selling off their shares and cause the stock price to drop.&nbsp;<\/p>\n\n\n\n<h3 class=\"wp-block-heading\">Bonds<\/h3>\n\n\n\n<p>Bonds are a different type of asset class. They\u2019re a much more stable investment than stocks because the value of a bond doesn\u2019t fluctuate based on the whims of the market. <strong>When you buy a bond, you\u2019re essentially giving a small loan to the bond issuer <\/strong>(which can be the federal government, local governments, or a corporation) with a predetermined payback period. Bonds provide a buffer against market volatility, which means that if some of your investments are in bonds rather than stocks, you won\u2019t lose your entire investment if the market crashes.<\/p>\n\n\n\n<h2 class=\"wp-block-heading\">Understanding Mutual vs Index Funds<\/h2>\n\n\n\n<p>The second important concept you must know about is the difference between mutual and index funds. Both index funds and mutual funds allow you to invest in a diverse group of investments. The main difference is that index funds invest in a specific group of assets (e.g. S&amp;P 500 stocks), while mutual funds invest a changing list of assets, selected by a fund manager.<\/p>\n\n\n\n<h3 class=\"wp-block-heading\" id=\"block-8c5b7667-f0d6-4f2f-8e19-bb4683157c7e\"><strong>Active Management: Mutual Funds<\/strong><\/h3>\n\n\n\n<p id=\"block-3a10d972-41dd-4a8f-b60e-bb91a68b736a\">A mutual fund is a collection of different investments. Mutual fund managers buy each of those specific investments (using a pool of money contributed by a group of individual investors) depending on what they think will generate the best returns. <strong>We call this \u201cactive management\u201d because an actual human is in charge of picking and choosing where to invest the fund\u2019s money.&nbsp;<\/strong><\/p>\n\n\n\n<p id=\"block-3ceb92cd-7156-4be9-9ac9-cb3fea5e6b93\">The benefit of a mutual fund is that each person who buys into it is automatically investing a little bit of money in each of the stocks and bonds that make up the fund. In other words, as an investor, <strong>you get all the benefits of a diverse investment portfolio without having to worry about picking specific stocks yourself<\/strong>. Mutual funds also sometimes produce amazing returns, but that performance only lasts a year or two.<\/p>\n\n\n\n<p id=\"block-501e6b6a-7cbe-41f6-8058-f881ea7f4e8d\">However, actively managed mutual funds have a major downside: fees. We already know that mutual fund managers typically can\u2019t beat the average market returns\u2014so if you invest in a mutual fund, not only will you likely see subpar returns, but you\u2019ll pay significant fees that sap the value of your investment even further. These fees (or \u201cexpense ratios\u201d) are usually 1-2% of assets managed per year. That may not sound like a lot, but those fees compound\u2014which means <strong>a 1% fee can end up reducing your overall returns by a whopping 30% in the long run.&nbsp;<\/strong><\/p>\n\n\n\n<h3 class=\"wp-block-heading\" id=\"block-95c13f70-1868-40cb-aa2e-ab75441cf76d\"><strong>Passive Management: Index Funds<\/strong><\/h3>\n\n\n\n<p id=\"block-d397e1a1-2d2f-425d-8dcd-04cd0de02d6e\">Thankfully, you can bypass those fees by <a href=\"https:\/\/www.shortform.com\/blog\/should-you-invest-in-index-funds\/\">investing in index funds<\/a>. <strong>Index funds are \u201cpassively managed\u201d because they don\u2019t have a fund manager who chooses which stocks and bonds to invest in. <\/strong>Instead, they use a computer algorithm to automatically invest in all the stocks in a given <em>index<\/em>, which is a section of the stock market (for example, NASDAQ is an index of technology stocks). This means that the value of an index fund will rise and fall in the same pattern as the section of the market that the index represents.&nbsp;<\/p>\n\n\n\n<p id=\"block-39bd2b37-c6b9-42e8-b0b0-73d0733614a1\">In the short term, index funds might not always match the returns of mutual funds because they track so closely with the wider market. However, <strong>in the long run, passively managed funds are a far better deal because there is no fund manager\u2019s salary to pay, so the fees are much lower.<\/strong> For example, an index fund might have an expense ratio of 0.14% compared to a mutual fund\u2019s 2% expense ratio.To understand how important those low fees are, let\u2019s look at an example. If you invest $100 per month in a mutual fund with a 1% expense ratio and keep that making that monthly investment for 25 years, you\u2019ll pay almost $12,000 more in fees than if you\u2019d invested that same money in an index fundwith a 0.14% expense ratio (assuming the standard 8% return). The more money you invest, the more money you lose to <a href=\"https:\/\/www.shortform.com\/blog\/mutual-funds-fees\/\">mutual fund fees<\/a>. For example, if you initially invested $5,000 in that same mutual fund and contributed another $1,000 each month after that, <strong>after 25 years, you\u2019d pay $126,418 more in fees than you would for an index fund.<\/strong><\/p>\n\n\n\n<p>For a more complete introduction to investing, check out <a href=\"https:\/\/www.shortform.com\/app\/book\/i-will-teach-you-to-be-rich\" target=\"_blank\" rel=\"noreferrer noopener\">our summary of <em>I Will Teach You to Be Rich<\/em><\/a> by personal finance educator Ramit Sethi, which is aimed at total beginners. <\/p>\n","protected":false},"excerpt":{"rendered":"<p>Are you looking for a complete beginner-friendly introduction to investing? Why do money gurus recommend starting to invest while young\u2014ideally, in your twenties? Investing is the best way to grow your money into more money, and starting early is crucial to maximizing that growth.&nbsp;However, so many young people miss out on lucrative returns by not investing. In this article, we\u2019ll go through the basics of investing: the benefits of starting young, the types of asset classes you could invest into, and the difference between investing into actively managed mutual funds and passively managed index funds.<\/p>\n","protected":false},"author":7,"featured_media":12680,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"_jetpack_memberships_contains_paid_content":false,"footnotes":""},"categories":[7,31],"tags":[496],"class_list":["post-49286","post","type-post","status-publish","format-standard","has-post-thumbnail","hentry","category-lifestyle","category-money","tag-i-will-teach-you-to-be-rich","","tg-column-two"],"yoast_head":"<!-- This site is optimized with the Yoast SEO Premium plugin v24.3 (Yoast SEO v24.3) - https:\/\/yoast.com\/wordpress\/plugins\/seo\/ -->\n<title>Introduction to Investing: The Beginner&#039;s Guide - Shortform Books<\/title>\n<meta name=\"description\" content=\"Are you looking for an introduction to investing? 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