Basics of Investing | Are Robo Advisors Right For You? (Robo Investing Guide)
Perhaps it’s anxiety after the Great Recession, or maybe it’s something to do with more access to information. Either way, people are more interested in learning about the basics of investing.
What was once a stuffy subject relegated to boring figures in suits has now become a topic that dominates the tech industry and takes up space on multiple blogs.
Speaking of the tech industry, robo advisors have become the darling of the financial world. They provide a low-cost alternative to financial advising, and people are eager to jump on board.
Image source: Investing Basics
Nevertheless, there are others who are uncertain whether they should leave it to the robo advisors or stick to the old-school method of hiring a financial advisor. It comes down to two main things:
- How much money you have to invest
- How much you know about the stock market
One of the first things a new investor should know is that anything to do with the financial industry is meant to sound more complicated than it is, mostly to make an individual sound more important than he/she actually is.
In any case, whether it’s through your research online or a hired investment manager or advisor, never be afraid to seek clarification.
Investing Basics: Why Invest?
Investing is meant to help individuals do something productive with their savings. In essence, one of the basics of investing is to make your money work for you. While putting your money in a savings account may seem satisfactory enough, you are losing money in the long run due to inflation. Investing basics help you grow your money so that you have assets beyond your income, a safety net for a rainy day, and, with proper planning, the funds for a comfortable retirement.
Additionally, you make money off of interest or dividends that you can spend knowing your principal is still intact or that you can reinvest.
Investing Basics: What Is a Portfolio?
A portfolio is simply a collection of your investments. You may have an investment portfolio with an investment advisor or with a robo advisor. It simply refers to the overall accumulation of your assets. Your investment portfolio may consist of stocks, bonds, mutual funds, exchange-traded funds, commodities, and more.
There are numerous investment products on the market. For those getting started with investing basics, these are the main terms they should familiarize themselves with: stocks, bonds, mutual funds, and exchange-traded funds.
Stocks are essentially pieces of a company. When a company decides to go public, it is because it needs more capital to fund its growth. As a result, it sells pieces of ownership in its company on the stock market. This access to the public’s money means it becomes beholden to the public to comply with government regulations. Those who go beyond the basics of investing are interested in analyzing the health and financial statements of different companies to make the best stock picks.
Bonds are essentially debt obligations. The government or a private company borrows money from you for a fixed period of time. In exchange for your money, it pays you interest at pre-determined intervals, and at the end of the loan (maturity date), you receive your principal.
Including bonds, especially government bonds, in an investment portfolio is considered one of those important investing basics to implement so that you have buffer room in case you suffer a loss from other more volatile investments.
Mutual funds are usually, though not always, managed by a fund manager who picks stocks for a number of clients. Those clients contribute money to the fund. They own a certain piece of that fund depending on their contribution. Fund managers choose from a variety of sectors in different markets to decrease risk for their clients.
For a long time, mutual funds have been considered a safe choice for those who are just familiarizing themselves with the basics of investing and wanted to put their money in the market without managing it themselves.
Exchange-traded funds (ETFs) are similar. Their main distinguishing feature is that they can be traded on the market like other securities whereas mutual funds can only be sold back to the fund manager at the end of the day for the net-asset value (NAV).
Both mutual funds and exchange-traded funds can track an index. ETFs that track an index make up the main investment vehicle for many of the robo investing services available today.
Investing Basics: Get-Rich-Quick Schemes vs. Long-Term Strategy
An introduction to the basics of investing also requires adopting a realistic and healthy investing mentality. Oftentimes, novice investors or those simply interested in the stock market are fixated on ideas of making a killing by putting all their money in a single company. While there are some people who make a lot of money through speculation or even luck, this is not a realistic approach.
If your knowledge of the stock market doesn’t go beyond investing basics, and you are not wealthy enough to weather severe losses, approaching investing in such a way can lead to devastating results.
Instead, the rule of thumb is to create a portfolio that is balanced between stocks and bonds. Since bonds are the less risky investment vehicle, if you have a lower risk tolerance, most of your investments should be in bonds while a small percentage is put in stocks. Many robo investing apps automatically allocate your portfolio to reflect the information you give it, such as age, retirement status, and income level.
Additionally, investing means not only considering risk but considering the time horizon of your investments as well. Hopefully, your investments won’t just be diversified in terms of assets but in terms of the kinds of accounts and investment goals you have as well.
Different investment goals include saving for a house, a trip or an education. However, there are also legal classifications of accounts to better help people save for specific goals, such as retirement, without paying taxes on those capital gains. Many robo advisors offer these kinds of accounts as well.
To properly use the basics of investing, it’s important to understand time horizons. The further away your time horizon is, the riskier you can be with your investments. For instance, if you are in your twenties and decide to put $500 a month into a retirement account (i.e., a traditional IRA or a Roth IRA), it makes sense to have more of that be put in stocks as opposed to bonds.
So long as you are choosing stocks from companies that perform well on average, you can weather stock prices falling in the meantime in exchange for a potentially high return on investments later on.
The closer you get to retirement, the more you should start putting the money in your retirement account towards fixed-income assets like bonds. Many robo advising companies have started to fill this sector by providing easy investing solutions for those planning for retirement or who are close to retirement.
Should I Get Into Robo Investing?
Choosing whether or not to start robo investing is not so much a question of security as it is a question of means. The reputable robo advisors have industry-standard security and, depending on the company, varying insurance. But keep in mind, insurance in case a company goes bankrupt is not the same thing as insurance against losing money with a bad investment. One of the basics of investing is that there is always risk involved.
Instead, the real deciding factor is how much money you have to be managed. Robo investing is, at its core, a cheap alternative to human financial advisors. If you only have a few thousand dollars you would like to invest, a personal financial advisor is not affordable.
If you are a wealthy individual with a significant amount of money, usually in the mid-to-high six figures or over, it makes more sense to use a financial advisor or the financial advisor/robo advisor hybrids offered by companies like Vanguard.
The reason for this is that many of these automated stock trading software programs will track index funds offered by companies like Vanguard. Simply speaking, what essentially ends up happening is that you pay for the robo advisor to mimic companies like Vanguard and then charge you a fee when you could have gone straight to the source.
Additionally, robo investing platforms will compare their results to actively managed mutual funds, which is not really a terrific indication of how they outperform other passively managed funds. Naturally, a low-fee fund will beat out a high-fee fund simply because there is a fee even when it is performing poorly.
The reason these services are recommended for those with a smaller amount of money to invest is that these individuals are unlikely to afford those other services since they usually carry a minimum deposit. Vanguard’s Personal Advisor Services, which blends robo investing technology with a live financial advisor, requires a minimum deposit of $50,000. Relatively speaking, if these are your circumstances, there is more to gained by putting some money in robo advisors than simply leaving it in savings.
User-Friendliness of Robo Investing Platforms
While analysis may show that automatic solutions are not as profitable for those with larger assets, reviews demonstrate that many who use robo advisors are happy with the results. Many cite the ease of use and the “set it and forget it” nature of the platforms. The underlying algorithms that rebalance portfolios and carry out trades means that, aside from depositing money, users can let the software do the work for them.
A list of robo advisors for a variety of investing needs include:
The other perceived advantage of using a robo advisor is that it helps investors stick to one of the investing basics: don’t freak out with the markets.
When share prices are falling, people tend to lose it and sell their assets, and when things are booming, people enter a spending frenzy. What results is an irrational situation where investors sell low and buy high.
One of the basics of investing in the stock market is in understanding that the market can be volatile, and that patience and long-term strategy are key.
While learning investing basics may be the last thing on some people’s minds, understanding the markets has become exceedingly important. The media has spent ample time discussing the predicted retirement crisis.
As more and more workers are expected to privately invest for their retirement and less people put aside enough money, there will be many individuals left to fend off of meager Social Security benefits.
Even those who have dutifully put money aside in savings will find that it may not be enough to live off of once they’ve finished working, thanks to the higher cost of living. For those in this situation who cannot afford more sophisticated investment advice, using robo advising tools may be the best option.
Overall, when it comes to planning for life goals, learning the basics of investing is in everybody’s best interest.
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