In this week's episode, we are discussing basic investing terms: types of retirement accounts, types of investments, and ways to buy investments. Don’t worry, I kept everything light & high level, so it’s not super boring. https://www.balancedfi.com/investment-terms-101/ These are things you should know though, especially as you begin investing or if you want to get serious about your financial future.
Welcome to the Balanced FI Podcast, episode 39 - Investing Terms 101: Basic Investment Terms You Need to Know
Understanding a few basic investment terms is a step forward on your journey toward financial security.
Investing can be as complex or as simple as you want it to be. Thousands of people actually invest others’ money as a job…. but it’s also something literally anyone with money can participate in.
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RESOURCES:
Read- Investing Terms 101: Basic Investment Terms You Need to Know
FREE download- Investing Terms 101 Fact Sheet
Read- Smart Ways to Use Your Stimulus Money
Read- Financial Security Step 9: Increase Retirement Contributions
Read- Financial Security Step 2b: Begin Saving for Retirement
SOURCES:
Source- The S&P 500 and How It Works
Source- J.P. Morgan Glossary of Investment Terms
Source- Investment Terms Everyone Should Know
Source- Basic Investing Terms You Should Know
📍 📍 Hey there, this is episode 39 of the Balanced Five podcast. Investing Terms 101, basic investment terms you need to know. Welcome to the Balanced Five podcast, where we talk about balancing intentional debt payoff, saving money, and actually living your life. I'm your host, Raelia, small business owner, wife, girl mom, non profit co founder, and money nerd.
This is an audio version of the Balanced Five blog, because I know how hard it is to find time to sit down and read literally anything. Instead, you can get quick bits of money knowledge on the go. I want to help you learn to control your money, instead of letting your money control you. Let's get started.
I know that talking about investing probably isn't super exciting to most people, but But understanding a few basic investment terms is a step forward on your journey toward financial security. Investing can be as complex or as simple as you want it to be. Thousands of people actually invest other people's money as a job, but it's also something that literally anyone with money can participate in.
You should start investing as soon as you can, especially in retirement accounts. Contributing early and regularly helps grow your wealth over time. When you receive unexpected money, like a tax refund or a bonus at work or even just, you know, a birthday gift maybe, and assuming you have no debt, you should think about investing it at least.
I would strongly recommend investing though. Whether it's in a retirement fund or an investment account, it's a good way to grow your money. So I pulled the numbers that I'm going to talk about in just a second from my post about beginning to save for retirement. And that's podcast episode 8, or the link is in the show notes to the blog post.
So I used a calculator on bankrate. com to run these scenarios. If you start saving for retirement when you're 25 years old and you have a salary of 40, 000 that increases at 2 percent per year. You contribute 10 percent of your salary, which is below the minimum recommended for most people. You plan to retire at age 64.
Your annual rate of return on those investments is 7 percent and you do not have an employer match. All of those factors combined. your retirement account balance will be just over a million dollars by the time you hit 65. However, if you start saving for retirement at age 45, everything else is the same, except you are starting to save 20 years later.
Your retirement account balance will only be 197, So, that is, 000 difference. If you wanted to get closer to a million dollars starting to save at age 45, you would have to contribute 50 percent of your salary instead of just 10 percent and then your balance would be just over 900, 000. So it's not quite as much as if you had started at 25, but it's definitely better than only contributing 10%. I know, that might be depressing if you're a little over 25, but those numbers are shocking. Thanks to compounding interest, saving just 10 percent of your salary from ages 25 to 65 makes you a millionaire. And that's not even counting the value of your home or other investments you might have. Saving a probably unreasonable 50 percent of your salary from ages 45 to 65 makes you almost a millionaire.
So you can see that there is a huge difference in the outcome just by starting to save earlier. And that is how powerful investing is. That is why I want you to know some of the basic terms so that you are informed and you are ready to take those steps to start your retirement savings. You know, even just starting an investment account like a brokerage account or buying mutual funds or whatever, even if it's not in a retirement account, investing is a great way to grow your money.
But I also don't want you to be depressed or too worried if you're a little older or you don't have a lot of disposable income. Maybe you're still paying off debt. That's fine. Saving 3 percent of your income is better than nothing. And with some work and diligence and maybe some luck, down the road you'll be able to save more.
And you'll be able to save more. become more financially secure. That's the goal. So let's jump into the basic investment terms. You don't have to be a sophisticated, highly educated investor to contribute to a retirement account or buy stocks. There are super complex ways to manage your investments, but there are also very simple ways to invest.
End. I'm not an expert, so we're going to talk about the simple ways, the ways that regular everyday people can invest. In Investing Terms 101, we're focusing on the most simple of investing terms, and this will help you start investing or understand your existing investments, but you can quickly move beyond these terms with a little research.
So, if you go to the show notes right now, you can actually download a free fact sheet that will cover a lot of this information if you just want a quick refresher down the road. First up, we're going to talk about retirement account types. Retirement accounts are just a single group of investment accounts.
You can invest money without saving for retirement or using a tax advantaged retirement account. So that would be if you bought some stock or even bonds on your own without using a specialized account that's tax advantaged for retirement. However, a tax advantaged account is your best option if your goal is to save for life after work.
So you can read more about starting to save for retirement and the annual limits for each type of account in Financial Security Step 2B, Begin Saving for Retirement, and that is also a podcast episode 8 that I just referred to a little bit ago. Before we talk about individual account types though, you should know what vesting is.
Vesting is one of the most important basic investment terms for anyone contributing to employer sponsored plans. You become vested in your employer sponsored retirement account when you have reached a predetermined length of employment and contribution to the plan. So at that time you will have full access to all of the funds in the account.
Basically, that means that once you have worked and contributed to a retirement account for a specific length of time, you become vested. And that means that you will get access to whatever your employer has contributed to the, to the plan. So if you leave your job before you're vested, you can only take the money that you contributed yourself.
Leaving after vesting means that you can take both your contributions and your employer's contributions. So the last like real job I had, the vesting length was five years and I ended up leaving after about three years. When my daughter was born, so I lost out on thousands of dollars that my employer had contributed to my retirement account.
I just wasn't able to work there long enough, and so I walked away with less money than I would've had if I had been able to stay on longer. Okay. You probably have heard of a 401k, but what is it? Employers offer 401k plans as a way for you to set aside money on your own and have it taken straight from your paycheck before taxes are deducted.
Some employers match a portion of your contributions, which is basically free money for you. So, a 401k basically means that you are reducing your taxable income. and saving for retirement. So let's say your salary is 100, 000. You contribute 5, 000 to your 401k. That comes out before taxes, so you are only taxed on the 95, 000 left after making that contribution. When you have the 5, 000 taken out from each paycheck. It'll be invested and grow until you retire. When you start taking that money out of the retirement account after you've, you know, hit the appropriate age and you have retired, you will be taxed on the money then. So you, you do end up paying taxes on it.
It's just whether you're going to pay taxes on it now when you're working or later after you've retired. And just so you know, a lot of the accounts that have, like, letter and number names, like 401k, that refers to the specific code in the IRS documents that outline the structure for this type of account.
So this is actually, like, section 401, portion k, or whatever. That's where the name comes from. There's also a Roth 401k, and that is just like a regular 401k plan, except you pay taxes on the money before it goes into your account. And this way, when you retire and start to withdraw funds from the account, that money will be tax free.
So, you make 100, 000. If you put 5, 000 into your Roth 401k, you're still going to be taxed on the full 100, 000 now. but you don't have to pay taxes on the amount that you take out later. An IRA is an individual retirement account and that's a type of retirement account that you can set up on your own without an employer.
IRAs have similar advantages to 401ks, they are just not run through an employer. So if you don't qualify for an employer sponsored plan, an IRA is a good retirement vehicle. Contributions are not taxed like a 401k, but the withdrawals in retirement are. Similarly, there are Roth IRA accounts, and those are retirement accounts that are not sponsored by an employer, and the contributions are taxed when the contribution is made, and so the money withdrawn in retirement is then tax free, just like a Roth 401k.
403b accounts are the equivalent of a 401k, but they're only for public school and non profit employees. There's also a Roth option, where the contributions are taxed initially. So, those all depend on who you work for and if they offer a retirement account. There is also an account called a SIMPLE IRA.
SIMPLE stands for Savings Incentive Match Plan for Employees. So that can be offered by employers with fewer than 100 employees, so small businesses. And they're a way to offer retirement accounts without the employers having to deal with all of stress of a 401k. And last up is a SEP IRA. SEP, SEP, stands for Simplified Employee Pension.
And that is a retirement account for self employed people and small business owners. So the people who actually run the business, not employees of the business. Obviously, you need to look at who you work for and if they offer a retirement account. When you're trying to decide, you know, what account to set up, you are only eligible for certain ones based on your employment situation.
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This online course is a brand new offering from Balanced 5. And it will revolutionize the way you meal plan. Just go to balancedfi. com slash meal plan for more information and to sign up today. Now let's talk about investments. So a retirement account includes investments. You are investing your money, but it's through an account that is, you know, special for tax purposes.
You can also just invest money without using a retirement account, but then you do have to pay different, like you'll have to pay taxes on the money when you first earn it, and then assuming your money grows, you have to pay taxes on the gains. So the difference between the small amount you invested and the larger amount you eventually withdraw.
So there are different tax implications, but For now, let's just talk about the types of investments. Common stocks are shares of ownership in a company, and once you buy the stock, you own part of the business, and you get to benefit from any profits it earns. So usually, the business will issue financial statements showing profitability, which increases the value of the stock.
Stocks are issued by publicly traded companies, corporations. Common stock allows the holder to vote on corporate matters, but that doesn't mean much unless you own a huge percentage of the stock. So, for most people, the voting rights don't really matter at all. Preferred stock. is also a share of ownership, but it gives you certain privileges.
They don't allow for voting, but they divest larger dividends that may be guaranteed. Dividends for common stockholders, on the other hand, are not guaranteed. A dividend is a portion of a company's profit paid to shareholders as, you know, a benefit for investing in the company, and the amount and frequency of payments are determined by the specific company.
So, unless you get really far into the weeds on investing, you probably don't care about common versus preferred stock, voting rights, or even dividends. You have to own quite a few shares of a stock for the dividend payouts to be meaningful to you in any way. Next up are bonds. And those are securities, which is a kind of investment, that represent loans to a company or the government.
You'll get paid back the amount you originally invested, plus an agreed upon rate of interest. And the interest rates for bonds are usually pretty low because they're a safer investment. Bonds issued by a government are almost always paid back, unless the city or state Files for bankruptcy, which doesn't happen very often.
However, since they're less risky, they reward you less. So you're not going to make as much money. Real estate is an investment, usually. And the basic idea behind investing in real estate is that you buy a property with the goal of selling it for more than what you paid. And while you can include your home in your net worth calculations, it is best not to view your place of residence as an investment, because you live there.
Your home is where you live, and you might not make money when you sell it, but you'll have benefited from having a residence. You didn't have to pay rent that whole time. Real estate investments are properties purchased and then rented or leased out for money. Investing in real estate can be risky if the purchase is made with a mortgage.
In that case, you have to ensure the rent charged is enough to cover the mortgage, taxes, insurance, and maintenance. When real estate is purchased with cash, there's more room for error because the rent doesn't have to cover the mortgage each month. So it's not as big of a deal if you don't have the place rented out for one or two months.
Ways to buy investments. While you can buy individual stocks by yourself, there are many ways to buy a stock or bonds or whatever to spread the risk across a larger group. So exchange traded funds are baskets of stocks that trade like individual securities. Broadly speaking, ETFs offer exposure to a group or index of assets rather than just one company or sector.
Index funds are a type of mutual fund that aim to match the performance of an index, like the S& P 500. Which you might have heard of. And this means that you're investing in stocks like ExxonMobil and Apple with having, without having to pick them out for yourself. So you just invest your money with one company who's doing all the work for you.
And this spreads the risk out over many stocks, but it also dilutes the potential rewards. Investing in an index fund means that you can own a teeny bit of many different companies. So in one stocks. Or when a company's stock value increases, the index fund value will also increase, but by a smaller percentage.
Because you don't own a lot of that one stock. Likewise, that also means that the value of When the value of an individual stock drops, the index fund will decrease by a smaller amount than that drop for the one stock. An index fund is a way to reduce the risk of market fluctuations, but it also reduces the payoff of crazy upswings.
So if you want to invest money outside of a retirement account, an index fund is the way to go for a beginner. It's easy and not as risky. Mutual funds are a type of investment that pools your money with many other people. The basic idea is that you invest in one fund, and then buy stocks, bonds, or something else on your behalf.
And because it's all pooled together, the more investors there are, the less each person has to pay in fees. A mutual fund is actively managed by a professional, while an index fund is more of a passive reflection of the market. Involving a professional to manage the fund means that the administrative costs are often higher than other types of investments because you're paying that person for like hands on work.
The trade off is that you don't have to research individual stocks or index funds yourself. Trust funds. Probably not something you have to worry about, but you should know what they are. Trust funds are a legal entity that hold assets that will eventually be transferred They are usually set up as a way to transfer wealth to the following generations, basically giving money to your children or grandchildren.
The structure of a trust fund can be customized to meet the needs of the grantor, the person who sets it up, and the beneficiaries, the people who benefit. Trust assets can be invested in the stock market, or just held until they're distributed to the beneficiaries. So trust funds aren't really something that you can invest in, but they are a way to protect your assets and transfer them to others.
So a lot of times you will see property owned by trust so that it can be transferred to the correct people later on. Hedge funds are a type of investment that can be risky and expensive, but they have the potential to earn higher returns. They're often organized as a limited partnership or a limited liability company, which you probably know is an LLC.
Hedge funds are managed by professionals who often charge huge fees. So, as a beginner investor, don't even worry about hedge funds. You're not there yet. They're for rich people with investing experience or too much money to burn. Real Estate Investment Trusts Also called REITs, it's R E I T, are a type of security that's similar to an ETF, except you're investing in properties instead of stocks.
And REITs are a way to invest in real estate without buying individual properties. So you just purchase a portion of many different properties, which spreads out both the risks and the rewards. So, there is so much more to learn about investing than what we've covered here, obviously, but this is a good starting place.
When you're just getting started out, or you don't have a lot of money to invest, it's okay to start small. Learn as you go and educate yourself about the areas that you're interested in, but don't stress out too much right now. If you want to learn even more, or look up a specific term not covered, JP Morgan has a huge list of terms and definitions, and that will be linked in the show notes.
To recap, there are many different types of investments, retirement accounts, and ways to buy investments. What works best for you depends on you. What should you do next? Download the Investing Terms 101 fact sheet at bit. ly slash investingterms101 or it's linked in the show notes if you want a quick overview of investing.
It's important to have basic knowledge especially if you're thinking about starting to invest even if it's just in a relatively structured retirement account. Investing in your 401k is still investing and you should know a little bit. Thank you for listening to this episode. If you enjoy the Balance Fi podcast, I'd be so grateful if you left us a review on iTunes or told a friend.
As always, you can head to balancedfi. com to connect with me and stay in touch. I'm on Facebook, Instagram, Pinterest, and Twitter at BalancedFi. Until next time, stay intentional and look for balance.