When you think of investing you’re likely thinking about this class of investment. With each stage of investment, the level of knowledge increases as does the risk. At the foundational level, you barely need to know anything about the vehicle. Essentially, does this investment make money, do they steward the money well (low expenses) and what happens when I need it? However, as you step into this medium risk level or level 2 of investing, you’ll need to start doing some research.
Bonds, money market accounts and index funds are about as safe as you’re going to find in the world of investments. However, if you are willing to take on slightly more risk you open up the world of more opportunities. In particular, you open up mutual funds and the world of real estate. Unfortunately, the rules are going to have to be created by you from here on out. Whether you put 70% into index funds and 30% into real estate and mutual funds or do 50/50 is really up to how risk tolerant you are.
The challenge with medium risk investments is that you can absolutely lose your money here. With index funds, you can be pretty ignorant and do well. However, if you purchase the wrong home with the wrong strategy you’re going to lose money. Buy the wrong mutual fund and the same will happen.
Mutual funds are like index funds but much more specialized. They could be sector-based, like a health care mutual fund, or strategy based. Many investment companies even have mutual funds based on when you plan on retiring now. The same criteria that apply to index funds apply doubly here. The caveat is that there are some great mutual funds that are newer and don’t have a track record. Also, one of the big “gotcha” things in a mutual fund is the fees. This will require due diligence.
- Look at the track record, 5 years, 10 years?
- How long has the company been investing?
- What’s the expense ratio? Look at several mutual funds and compare to get ideas.
- How do they stack up against the index funds, the S&P?
- What’s the turnover rate (the rate at which the stocks are bought and sold)?
- What are their fees?
You should know what these questions mean but you don’t have to. As you answer these questions about one fund you’ll be able to compare them to others. As a side note, Vanguard has a variety of mutual funds if you want to take some baby steps.
The big one here is the fees. I once invested into a mutual fund that had great potential, great track record and a bunch of “celebrity” investors. Unfortunately, there were some hidden fees and there were penalties for removing money. Every month I’d receive a report about my interest gained, and every month I’d get a bill. The fees made the investment annoying to me but when I went to transfer the money the penalty basically negated all my gains.
Recommendation: Start with branching out from the index to more specialized indexes, like a health care index or an S&P 50 index. As you get more comfortable check out real estate funds (REITs) and look at actively managed and passive mutual funds. There are a lot of big winners out there and the beauty of mutual funds is that you can experience double-digit returns in exchange for higher risk.
Investing in real estate can be exciting. Depending on how far you get into it, it can encompass all the chaos of an entrepreneur’s life. From managing a team to marketing, real estate investing can be another business. If you want to invest in real estate you really need to become educated in it. If you have specific knowledge you then this investment can be a pretty low-risk endeavor. However, you can lose most if not all of your investment in real estate if you don’t. Real Estate investments are one of the only types of investments that can provide you with big returns and income if you want it to.
A few quick points
- Decide upfront what your exit strategy is.
- Strategic leverage is a popular tactic (getting a loan for the property), but be careful, being overleveraged (too many loans and not enough income) is one reason Dave Ramsey felt he had to file bankruptcy.
- Real estate investing can offer income and have multiple tax advantages, including a potentially tax-free retirement option.
I’ll cover real estate in another post but have to include it because it can be a key to long term wealth.
Recommendation: Read Millionaire Real Estate Investor, listen to the Bigger Pockets podcast and read the guides there. Don’t be afraid to get help from Realtors or to partner with other investors on your first deal. I recommend a minimum of 20% down on investment real estate.
Individual stocks are small slices of ownership in a company. There are many, many guides about this so I won’t cover them here. In general, you need 1 of 2 things to be investing in stocks. Deep knowledge of the market and the company or deep knowledge around trading methodologies. This is a huge rabbit hole and there is no shortage of companies wanting to teach you how to get rich quick. Obviously, stocks can range from relatively low-risk mega corporations to high-risk startups.
We’ll actually talk more about this on our next installment, Level 3 or High-Risk Investments.
Recommendation: If you’re truly interested in investing in individual stocks or trading them, start by paper or “pretend” trading them for the first year. Once you’ve done this, slowly start to invest using the same methodologies.