Investing is Essential to Wealth Building, but You Should Know the Risks
- Investing is not just investing in the stock market.
- You can invest in stocks, mutual funds, real estate, or your own business.
- Knowing your different options of investing is crucial, but knowing the risks that come along with investing is just as important.
Between the financial talks and tips on social media and the rise in popularity of mobile apps like Robinhood and Coinbase, more people are interested in or starting to invest. But remember, investing is not just investing in the stock market. You can invest in stocks, mutual funds, real estate, or your own business. Knowing your different options of investing is crucial, but knowing the risks that come along with investing is just as important.
Whether you are investing on your own or deciding to go through a third party like an investment firm to invest your money, you are still susceptible to loss. Therefore, once you have decided on an investment, you want to ensure you are knowledgeable. Poor investment decisions can stem from not researching enough about what company you want to invest in, believing what someone else thinks to be true or false about a company, or jumping on trends hoping to make a quick profit.
Recommended: Due to the different risks when investing, you want to make sure you know how to protect yourself from them.
To avoid making poor investment decisions, ask yourself these three questions:
- Who told me to invest in this stock/cryptocurrency? Evaluate whether they are certified financial advisors or if they are qualified to suggest reasonable investments.
- Have I researched this company before deciding to invest? Research the company’s history along with its stock history before you choose to invest with them. The research will allow you to assess your risk level beforehand. Investment apps like Robinhood, Public, and Coinbase display the five-year history of each stock’s performance.
- Am I buying this stock because of the hype? Many stocks get overhyped on social media with no financial evidence to support the company’s stock growth for the future. For example, Dogecoin and GameStop were hyped-up investments that increased exponentially because of high demand, only to plunge drastically shortly after.
Let’s take a look at two different investments–mutual funds and ETFs.
If you’ve chosen to invest in mutual funds, you should know that mutual funds are actively managed and try to exceed the stock market’s average annual return. However, it is essential to note that it is challenging to beat the market. When a portfolio is actively managed, fund managers prioritize short-term gains. Thus, they are only looking for stocks that help them make their money rise and sell those that are lowering the value of their portfolio. As a result, mutual funds are viewed as a riskier type of investment as they are not giving the stocks ample time to increase their value, which can hurt their annual return.
If choosing to invest in ETFs, one negative quality is the lack of potential for high returns. Both Index funds and ETFs mirror the performance of stocks; therefore it is improbable that they will outperform the market. Furthermore, another disadvantage of ETFs is that they lack diversification. As ETFs mirror specific industries or financial markets, the lack of diversification could be risky when a sector is not doing well. Additionally, index fund managers have much less flexibility than mutual fund managers as they have to meet certain requirements when investing. As a result, this makes it difficult for them to perform well.
It is crucial to know the risk you are taking on when investing your money. Regardless of where or how you invest your money, there will always be risks involved. Therefore it is important to minimize that risk whenever possible.