Investing your money, as opposed to “saving” it, generally means putting the money into investments where you are likely to earn a better return than a basic savings account, but you are taking some risk that the money you invest could be lost, partially or fully. Obviously, people wouldn’t do this if the chance of losing was as great as the chance of earning a positive return, so generally speaking the expected return on an investment will be positive. It also means that the higher the risk, the higher the expected return needs to be to offset the risk.
Some common investments that are considered “liquid” include stocks, bonds, mutual funds, exchange traded funds (“ETFs”), and similar items that you can sell and get your money on any business day of the year. There are also plenty of “illiquid” investments where you cannot usually get your money nearly immediately if you need to; these illiquid investments include things like real estate, shares or units of privately held businesses (if you own stock you own part of a business, but its considered a “publicly held” business), or investments in private equity or venture capital funds, where you usually need to allow them to use your money to invest for several years. Another class of liquid investment that requires much more sophistication is commodities – which includes actual tangible goods from gold and silver to oil, cotton, oranges, and more. While you can trade in commodities on any business day, you need to be careful – buying and selling an oil contract (which is by standard practice for 1,000 barrels of oil), could mean actually needing to deliver, or take delivery of 1,000 barrels of oil. That is indeed a liquid investment, but potentially a bit too literal for most people.
Summary of common investment types
- Stocks: Owning stock means owning a share of a company. Usually companies have tens, or even hundreds of millions of shares issued, and the collection of people that own those shares are the shareholders. Shares have value because they are entitled to their proportionate share of the companies value, and successful companies often pay dividends, so shareholders can get a regular return on their stock ownership investment. Stocks are risky because unsuccessful companies tend to have their share price fall, reducing the investment value, and if a company goes bankrupt the value of the stock often falls to 0, completing wiping out the shareholders’ investment in the company.
- Bonds: These are debt issued by companies. The bond issuing company promises to pay interest on a regular schedule, but often times the scheduled payment is just the interest payment, not a combination of interest and principal, like when people have a mortgage or a car loan. Bonds have risk that if the company has insufficient funds to pay its interest payments, or to pay off the bonds the bondholders could lose some or all of their investment. However, if a company goes bankrupt it will pay the bondholders before it pays the stockholders, so bonds are generally considered less risky than stocks.
- Mutual Funds: These are many investors pooling their investment (hence the “mutual” in the name) to invest in a variety of investments – so most funds own a diverse set of stocks, and/or bonds, and/or other investments (possibly less liquid investments and possibly cash in interest earning account). There are mutual funds that focus on just owning stocks, or bonds, or even specific types of stocks, bonds, and other assets. The point of mutual funds is to reduce the risk – like the old adage says “don’t put all your eggs in one basket”, so often mutual funds won’t perform as well as the best performing stocks, but also won’t do as poorly as the worst performing stocks.