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Making Investments

You might not consider yourself an investor, but if you own even a few shares of stocks, mutual funds, or exchange-traded funds (ETFs), that's what you are. And if you add new money, either by buying more shares of the stocks and funds you already own or by selecting new ones, you're on your way to building an investment portfolio. That said, whether or not you should invest depends on your individual situation.

Just Get Started!

You don't need to stash away a big lump sum of money to start investing. Some brokers have no minimum deposit requirement, so you can open a brokerage account as soon you have money for a single investment. Once your account is open, you can add money on a regular schedule. It doesn't matter what that amount is. For example, you might invest a percentage of your paycheck each pay period, or even just $100 a month. If that sounds like more than you can afford, think of it this way: $100 a month is less than $3.30 a day.

There's a big advantage in having an investment account that's separate from your checking and savings accounts. Check with your employer - you might even be able to have your employer deposit the amount directly into your investment account every month. Or, set up an automatic deposit from your checking account. That way, you're less likely to spend the money you want to invest on everyday expenses or short-term goals.

In fact, some people who are investing to meet several major goals open separate investment accounts for each goal. While all the money in the accounts belongs to you, it can be easier to keep track of the progress you're making.

The Power of Compounding

As long as you can afford to do it, there's no reason to wait to start investing. The earlier you start investing, the more you can take advantage of the power of compounding. Compounding occurs when your investment's earnings are added to the amount that you have invested. That creates a new larger base that future earnings can accumulate on. The larger that base becomes, the more earnings it has the potential to produce.

Consider this hypothetical example:

  • You invest just $100 a month for 10 years in a mutual fund
  • The fund gained value at an average annual rate of 6% (after expenses)
  • All your earnings were reinvested in the fund

After 10 years, you would have invested $12,000 and your hypothetical account would be worth $16,470. After 20 years, assuming the same $100 a month investment, the same 6% annual return, and continuing reinvestment, your account would be worth $46,435.

Remember that this example doesn't reflect the return on any actual investment, and investment returns aren't guaranteed. Brokerage trading fees and taxes are also not included here. Your experience will vary, and you can't be sure of earning 6% a year. In fact, in some years, it may be substantially less, and your account may lose value in those years. Similarly, it could be higher in some years, and your account could grow a little faster.

Capital Gains and Losses

While you own an investment, it may increase or decrease in price, producing what are known as a capital gain or a capital loss. If you hold onto the investment, this gain or loss is unrealized. The nice thing about unrealized gains is that your investment grows in value and no taxes are due until you sell. The downside is that an unrealized gain can turn into a realized loss if the price drops. Even then, you only realize a loss if you sell. If you keep it, the investment may regain value and eventually provide a realized gain.

You may owe a capital gains tax if you sell an investment for a higher price than you paid for it. The rate is determined by your AGI, but it is currently (in 2014) less than the rate you pay on your ordinary income.

Investor Profiles

There are almost as many approaches to investing - sometimes called investing styles - as there are people who invest.

Conservative investors are primarily concerned with safeguarding the assets they already have. They try to minimize the chance of losing any of their principal, but as a tradeoff to taking fewer risks, they have a lower potential return.

Moderate investors want their investments to grow and provide some income. They are willing to take some risks to get higher return.

Aggressive investors concentrate the potential for significant growth. That means they run a greater risk of losing some principal.

Your individual approach may be any one or a combination of these three styles. Many investors combine styles in a way that is sometimes described as an investment pyramid. It has a base of safety, a main structure of moderation, and a cap of risk.