Investment Terms Everyone Should Know

If you are a new investor, you will likely encounter terms that you don’t understand. It may seem overwhelming in the beginning but, like anything, once you become familiar with it, you realize there is no reason to be intimidated. This is an introduction to some of the more common investing terms that you may encounter, providing a brief definition of each as well as links to other articles where you can read more about that topic.

Types of Investments

There are various ways to invest your money, such as in stocks, bonds, and property. You should have a clear understanding of each option to make the best decision for growing your money.

Bonds

In simple terms, a bond is like a loan. When you buy a bond, you are usually agreeing to borrow money from a government or a company. Typically, the bond issuer promises to repay the entire principal loan amount on a future day, known as the maturity date, and pay interest income in the meantime based upon a coupon rate.
There are many types of bonds including those issued by governments, such as Treasury bonds, and tax-free municipal bonds. These bonds are often used to fund government operations and capital projects. There are also corporate bonds, which help companies fund their operations and invest in themselves. There are also savings bonds such as the Series EE savings bond and the Series I savings bond. There are investment grade bonds, the highest being AAA-rated bonds, and, on the opposite end of the spectrum, junk bonds.

Types of Investment Structures

An investment strategy may include specific pooled or grouped classes of assets.

Mutual Funds

A mutual fund is a pooled portfolio. Investors buy shares or units in a trust and the money is invested by a professional portfolio manager. The fund itself holds the individual stocks, in the case of equity funds, or bonds, in the case of bond funds. Mutual funds are a great way to get exposure to groups of stocks or bonds, freeing the investor from the need to research and purchase shares of each company individually.

For example, if you want your portfolio to include more investments in smaller companies, you can purchase shares of a small-cap mutual fund. Mutual funds do not trade throughout the day to avoid allowing people to take advantage of the underlying change in net asset value. Instead, buy and sell orders are collected throughout the day and once the markets have closed, executed based upon the final calculated value for that trading day.

Exchange-Traded Funds

Exchange-traded funds (ETFs) are very similar to mutual funds, except that they trade throughout the day on stock exchanges as if they were stocks. This means you can actually pay more or less than the value of the underlying holdings in the fund.

 In some cases, ETFs might have certain tax advantages but most of their benefits compared to traditional mutual funds are largely a triumph of marketing over substance. You can use these or traditionally structured mutual funds in your portfolio.

Types of Retirement Accounts

There are various types of retirement accounts that, if started early, can set you up for a very comfortable retirement.

Roth IRA
A Roth Individual Retirement Account (IRA) is a special type of account designation put on a custody account that gives it some incredible tax benefits. However, it also has restrictions such as contribution amounts and types of investments held within the account.
Money contributed to a Roth IRA comes from after-tax dollars, meaning you don’t receive a tax deduction for it. However, as long as you follow the rules, under the current system, you will never pay taxes on any of the profits you generate from the investments held within the Roth IRA, nor when you withdraw those profits. You can buy stocks, bonds, real estate, certificates of deposit, and other asset types within a Roth IRA.

Traditional IRA

A Traditional IRA is the earliest type of IRA. Investors can contribute money to it if they meet certain qualifications, such as their total income. Also, investors pay no taxes on certain types of investment gains held within the account until they can withdraw the amount at 59.5 years old or are forced to at 70.5 years old.

401(k)

A special type of retirement plan offered by employers to their employees, a 401(k)usually allows investors to put their money to work in mutual funds or stable value funds. Like a Traditional IRA, investors usually receive a tax deduction at the time the account is funded. There are also annual limits that are much higher than those for a Traditional IRA or Roth IRA.
Employers often match contributions, such as a 50 percent match on the first 6 percent earned; and there are no taxes owed until you can begin withdrawing the money at 59.5 years old, with required distributions beginning at 70.5 years old. The term 401(k) refers to the section of the tax code that created it. In recent years, there has been a rise of so-called self-directed 401(k)s that allow the investor to buy individual stocks and bonds in the account.

403(b)

A 403(b) is a retirement plan that is similar to a 401(k) only it’s offered in the non-profit sector.
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