Investment has become one of the most overused words today. An investment is usually used to refer to any purchase that is made, however, this is not the case. An investment as the dictionary defines it, is something that is purchased with money that is expected to produce an income or profit. There are three basic groups of investment:
A. Ownership Investments: They are the most risky and profitable class of investments. They mostly include items such as:
- Traded securities: These are financial assets that are traded over a stock exchange. They are expected to represent partial ownership of an entity and your expectation is that a certain profit is to be realized. They include:
- Equity securities (stocks)
- Derivative securities (forwards, futures, currency swaps and options)
- Business: The money put into starting and running a business is an investment. A business not only requires your money and resources, but also the time you will take to make it a success.
- Real Estate: These are assets like property that you buy to either re-sell at a profit or rent out for a constant income stream. Please note that real estate is different from the house you live in because it is an asset which serves as providing you with shelter. Furthermore, even though the value of the property may appreciate over time, it should not be purchased with the expectation of making a profit.
- Precious objects: Precious metals, paintings and autographed items can be referred to as ownership investments provided that they are not purchased with the intention of reselling them immediately. It is important to note that they are not really seen as good investments because like homes they have a risk of physical depreciation and require upkeep thereby incurring storage costs. These costs eventually cut into the expected profit margins.
B. Lending Investments: They have considerably lower risk margins compared to ownership investments because they allow you to be the bank. Therefore, the profit margins here are much lower. They include items such as:
- Savings account: This account in the strict sense allows you to lend money to the bank which it will in turn lend out in the form of loans. The risk factor here as the account holder is almost negligible. Unfortunately, the return on a savings account is not usually lucrative, but it is a starting point towards finding your footing in financial investments.
- Bonds: This is usually a ‘general’ term for quite a number of investments from Certificates of Deposit to government, corporate and junk bonds as well as international securities.
C. Cash equivalents: These refer to investment options that are easily converted back to the cash itself. They mostly refer to Money Market Funds. This are low risk and low reward investments. On average, they usually have a return of not more than 2%. A money market fund is defined as an instrument whose objective is to earn interest for shareholders while maintaining a net asset value or NAV.
What is important to note in all this is that if you purchase something that has the potential to turn into a profit, then that is an investment.