Financial Education

The basics of investing

By Laura Stack, Chief Financial Officer for Pioneer Services

When most people think of investing, they think of the stock market. While that is definitely one option, the truth is that "investing" can be defined as "a place or financial instrument in which you place money, and expect a financial return."

This means that you have many different choices of where to put your money, and the following is a review of many of these options. Just remember that you don’t need to have millions—or even thousands—of dollars ready to invest. All you need is patience and a desire to put your extra money to work for you.

(Note that the following is not intended to tell you where to invest your money; it is merely to explain the different investment options available to you. To obtain financial advice to fit your personal situation, see a financial professional licensed in your state.)

Savings accounts
The most basic type of investment, savings accounts can be opened at most banks, usually only require a small amount to start (around $100 or less), are insured by the Federal Deposit Insurance Corp. (FDIC) up to $250,000, and can be accessed easily. They are also part of a smart financial plan when used to build up an emergency savings account of between $500 and six months take-home pay.

The main drawback of a savings account is that since it is fairly low risk, it is also low reward, paying only a small amount of interest. Even then, that interest is often linked to a minimum balance requirement, so you’ll want to try and maintain that minimum balance in order to maximize your return.

Certificates of Deposit (CD)
A CD is similar to a savings account: you don’t need a lot of money to invest in one, they can be opened at almost any bank, and your money is insured by the FDIC up to $250,000. It also shares a lower rate of return due to its low risk. The main difference is that you have to keep your money in the CD for a set amount of time or pay a fee, which reduces your access to the funds.

When looking for a CD, find out what other qualifications the bank has—some may require you to have another type of account with them, and rates can vary significantly from bank to bank. You’ll have plenty of options, and it’s best to comparison shop so you can get the most return for your money.

Money market account vs. money market funds
A money market account (MMA) is offered by a bank, whereas a money market fund (MMF) is usually offered by a brokerage house.

The money you place into an MMA is invested by the bank into government and corporate securities that are deemed low risk and, thus, offer a lower rate of return. Sometimes you can even write checks out of it like you do a checking account. While usually providing a higher rate of return than a savings account or CD, an MMA does require a higher dollar amount to open and maintain, and you are charged a fee if you don’t meet those guidelines.

An MMF is similar, but is actually a mutual fund that invests in safer instruments (bonds, treasuries, etc.) on a much, much larger scale. It also requires more money to open than even an MMA, and that money cannot be withdrawn as easily as in an MMA.

Annuities
An annuity resides in a bit of a gray area: some see it as an investment, while others see it more as a financial insurance product. Basically, an annuity is when you pay a certain amount of money (usually to an insurance company) into a plan that, at a certain date, pays you back (plus interest) in steady monthly payments. While it was designed to guarantee a steady income in retirement, some plans allow you to take the money out all at once in exchange for a lower rate of return.

The benefits of an annuity include the stability of the investment and the steady payout in retirement. The major drawback is that there are many, many different options—so many, in fact, that it can get overwhelming. But you can use that choice to your advantage by shopping around, checking out as many options as possible and, if needed, consulting a financial professional to sort out your choices.

Individual retirement accounts (IRA)
At the most basic level, an IRA is a type of retirement account in which you put money, with that money being used to buy certain types of financial assets and instruments. There are many different types, and each has its own qualifications, tax benefits, rates of return, and rules of what type of investments can and cannot be included.

The major advantage of any type of IRA is that it is long term, providing plenty of time for your money to grow no matter the swings in economic conditions. The drawbacks include: rules and restrictions, including the maximum you can contribute each year (currently $5,000); when you can withdraw the money; how you can take a loan against the account; and many others. Make sure you know all of the rules and restrictions and, once again, consult a professional if you’re not sure what to do.

Thrift Savings Plan (TSP)
Considered by many financial experts as the best way for military families to save for retirement, the TSP is a federally-sponsored retirement savings and investment plan that works much like a civilian 401(k): you place money into a fund (or funds) that invests in various instruments and financial markets.

A key benefit is that contributions are taken directly out of your paycheck pre-tax, making it easy to save while reducing your taxable income. It is also a system that is relatively easy to navigate, with only a handful of funds from which to choose, making it much easier to find one (or several) that meet your needs.

The drawback is that it requires patience and a long-range view of your finances, something that can be difficult when you see the value of your account drop with every dip in the market. Just remember that the TSP is for saving money over the course of a few decades, not just a few months or even years, so the odds are in your favor.

The TSP website—located at www.TSP.gov—has a great deal of information about the plan, its fund options, and all of the various requirements and restrictions.

Start early, save often
The best way to save for any retirement is to start as early in your career as possible. The power of compounding interest, when combined with consistent contributions and a diversified portfolio, can help you have a comfortable and financially-successful retirement.

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