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Economics For Life – #4: What are Investments?

June 30, 2011

Formal warning to all economists reading this: All of my descriptions are simplistic and are meant to help investing become simple for the average person. As an economist, your job is to complicate things and use the most convoluted words and descriptions of investment strategies so as to keep all the money for your clients and not for the average person. My job is to give everyone a chance to see all their money can do. You do your job and I’ll do mine. You’ll get paid more; I’ll sleep at night.

To Everyone Else: Even if you have ten dollars, you can start investing. If you begin early, you will be able to make money which will then enable you to fulfill more of the goals you have in life. For the dedicated follower of Jesus Christ, we recognize that our only trust is in God. We make money to serve Him with, not to make our lives more comfortable. If I make a million dollars and God asks me to give it all away, I need to be in a place where I can rejoice that God’s plans are going forward because the money I invested is being used for things that will last for all eternity.

Below you will see a lot of options for your money. As you see some that interest you, there are hundreds of places you can go on the Internet to find out more. I will start with the most simple investments and go to the most complicated.

1. Storage With Benefits: This is the simplest investment and the only one most people ever bother with. This is called “having a bank account”. At one time, banks actually paid interest to people who put their money in savings accounts. I even remember when banks paid a small amount of interest on checking accounts. But because the Federal Reserve charges almost no interest to lend money to banks, they don’t need our money. Because they don’t need our money, they don’t care if you store it with them. Therefore, they won’t pay you much interest. Here is the rule if you want to your investments in storage: the smaller the bank, the less likely they will borrow from the Federal Reserve and the more likely they want your money. Put your money in small regional banks and especially Credit Unions (which are legally not allowed to borrow from the Federal Reserve). These banks also charge less fees and charge less to make car and house loans.

2. Long-Term Storage: These are similar to putting your money in the bank with a few restrictions. Certificates of Deposit (CDs) pay a little more interest than a savings account. They also require you leave the money with them for a certain length of time (from 6 months to five years). For someone who is pretty sure they need all their money intact in five years and doesn’t really need or want to make a lot of money with it (and really doesn’t want to risk any of it), this is the way to go.

3. Buy Something: If you can figure out something that will be going up in price in the next few years, it is an investment. If you bought a house 20 years ago, it was a better than average bet it would be worth more after a few years. The same is true of land, collectibles and anything other people value. I know a person who bought over 1,000 Beanie Babies with the idea they would shoot up in price over time. They didn’t…but they could have. Unfortunately, in recessions, there are only three items that go up in price: Gold, silver and platinum (sometimes copper). The price of Gold has doubled since this recession started. If you bought an ounce of gold in 2006 for $700, it is now worth $1600. But honestly, you can buy just about anything with the hope it will change value in your favor over time. This includes other country’s money.

4. Lend it Out: Now we start to get tricky. In one sense or another, all the other investments are taking your money and lending it to someone else (or something else) for interest. I am going to list these in order of safety…your job is to determine what level of safety you want. The more risk, the more potential reward (and vice versa).

  1.  Bonds: You can lend money to our country (U.S Treasury Bonds) or to the State (California Bonds) or to a city (Sacramento Municipal Bonds) or to a utility (Pacific Gas and Electric Bonds) or even to a church (church building fund bonds). There are companies (like Morningstar) that tell us how likely each group is to pay us back with interest. For instance, several years ago, I bought a 5 year bond from the City of Riverside, CA where they promised to pay me 10% interest per year if I left it with them. Morningstar gave it a one-A rating, which meant it was pretty safe, but don’t put my food money there. Bonds are taken out for a length of time and give a group the ability to build big projects or pay their bills. That is how our country can keep going into debt. We sell our debts in the form of bonds. The biggest holder of these bonds right now is the Bank of China. Does that make you worried? Me too.
  2.  Stocks: With a stock, you get more privileges and take more risk. With a bond, you are pretty much guaranteed to make a certain amount of money. With a stock, you only make money if the price of the stock goes up. You also make money if that company pays dividends or earnings to its shareholders. A company that is doing well most likely will make money and pay out dividends. Therefore, their price will go up. The best strategy with stocks is to pick a few you like and then hold onto them for a long time. That is usually the best strategy. There are only about a hundred thousand other strategies. But, with a stock, you are lending a company money so they can keep operating.
  3.  Lending to a person: Some people are looking to buy something and they want others to lend them money to buy it. In return, they promise to pay interest. Usually people do this because they cannot get money from the bank. Therefore, unless you LOVE their idea and can risk losing all your money, this investment may not be for you.
  4.  Lending to a Mutual Fund: Everyone who has a pension or a 401(k) is probably already doing this. You are not actually buying stocks or bonds. Someone else does that. When you buy their mutual fund, you are lending them money to go and buy the stocks and bonds they like. There are specialized mutual funds (those that buy foreign stocks, transportation stocks, municipal bonds etc.) and some that actually buy something tangible (gold funds are an example of this. They buy gold bullion and you lend them money to do it. That way, you don’t have to actually have gold in your house). One fantastic form of mutual fund I recommend for those just starting out with investing has many names. This is where you buy the same stock or mutual fund every month with the same amount of money. On months where the price goes down, you buy more shares. On months where the fund price is up, you buy less shares. Most often this is called Dollar Cost Averaging.

5. Gamble with Your Money: All other investment strategies are some variation of gambling. In essence, you are getting money for doing nothing (which is another way of saying gambling). There are way too many of these to mention, but I will mention the top three:

  1.  Commodities: This is where you bet the price of something will go up or down. If you bet the price will go down and it does, you make money, even though the cost went down. With commodities trading, you can lose everything and even owe money. In many cases, you can make a lot of money and lose a lot of money.
  2.  Leveraging: This is the investment strategy put forward in the book “Rich Dad, Poor Dad”. Essentially that book teaches you to borrow money and then lend that money out. In this way, you can invest way more money than you had to begin with. So many people did this in the past 15 years with houses. As a result, this sent our economy into a tailspin. Not only can you lose everything and owe money, even if you make money, you are causing the price of things to inflate, thereby hurting our economy. I consider this kind of investing to be a Ponzi scheme and as immoral as you can get.
  3.  Derivatives: This is where you bet whether the economy is going to do well or poorly. These are the investments that banks took out that caused the recession to begin. But you can do this with individual stocks as well. If you bet that a stock will go down, and then it does, you actually sell it at the higher price and buy it at the lower price. This is called “shorting a stock”. You can bet on just about anything regarding financial instruments. You can bet the currency will go down, the price of gasoline, the Dow-Jones average or any number of other measurements. It is dangerous, immoral and unfortunately how most very wealthy people play with their money. Don’t do it. Don’t
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2 comments

  1. Wow! Loved your article. I’m 22 years old and know anything about this. Thank you. You have made things/terms much more clear. Looking foward to reading all you Economics for life.


    • You’re welcome Julia. I am returning with three more in the middle of this month.



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