One of the biggest forces working against capital is inflation. Currently, inflation in the United States has increased to record levels in more than 10 years. $1 today has less value than $1 last year and $1 now has more value than it will in 1 year, due to inflation. The only way to combat inflation and its negative impact on capital is through investing. There are many types of investing, from real estate, stocks, bonds, and commodities, but the main objective of investments is to keep your capital from decreasing in value over the years while also growing.
The inflation rate in the United States has averaged at about 2%, with 2021 seeing an inflation rate of about 5.4%, one of the highest rates since the 1980s. Many individuals have become worried about the impact of inflation on their capital and the various ways and assets they can invest in to negate the impact of inflation.
Every investment has its risks and rewards associated with them. The higher the returns of the investment, the riskier the investment will be and vice versa. It has never been easier to start investing than it is now. Investors have the choice in countless stock brokerages, market data, and the latest corporate news about every imaginable company. All of which are accessible within a few seconds. The first step to investing is to open an account at a reputable brokerage such as E*Trade, eToro, or DEGIRO.
Once an account has been established, making an investment strategy will be the next step. You will need to determine your risk profile, which is how much risk you want your investments to take on, as different investments have varying levels of risk. The investment with the least amount of risk is treasury bills or T-bills for short, which are essentially a loan to the United States government. The reason why they are considered to be the safest type of financial securities is that the American government will not default on the treasury bonds, essentially deeming it as a “risk-free asset”, which is also the only asset that is risk-free in the world.
Money markets and Certificate of Deposits (CD’s) is the next level of risk. Money markets are short-term loans that are between traders and corporations, which can range from 1 day up to 1 year, depending on your needs. CDs are financial products that can be purchased through credit unions and banks, which provide the owner with an interest rate. The owner of the CD will need to leave a sum of money with the financial institution for a period of time without withdrawing from the security.
These types of financial securities can vary with their returns, length, and amounts, but they have higher rates than T-bills. Despite both money markets and CD’s offering their holders lower rates when compared to other investments, what they do provide their investors with is stability, lower risk, and a guaranteed rate of return, regardless of what is happening in the economy.
Although money markets, CD’s and T-bills typically have a rate of return that is lower than the rate of inflation, they are an essential part of any portfolio, as they provide investors with stability, less volatility, and a certain rate of return. This is why financial professionals advise individuals of having a balance of low-risk and high-risk investments within their portfolio.
Mutual funds, blue-chip stocks, blue-chip exchange traded funds (ETF’s), and some bonds are the next level in terms of risks and returns. The term bond encompasses many different financial securities, from corporate bonds, government bonds, municipal bonds, and junk bonds, with all of them having varying degrees of returns and risks associated with them. They all have the same premise, which is lending money to an entity. For example, corporate bonds involve lending capital to corporations of varying sizes and in return, the owner of the bond will receive a predetermined interest rate for a certain period of time. At this level of investment, individuals will see returns that are at or slightly higher than the projected inflation rate of 2021.
Blue-chip stocks is a term that is used to describe incredibly large companies that have established themselves as worldwide leaders in their industry and are considered to be a safe investment with future growth and potential. Examples of blue-chip stocks are Microsoft (MSFT), Apple (APPL), and Alphabet (GOOG). ETFs are a type of financial security that is designed to track a particular sector, index, or commodity, such as the price of gold, S&P 500, or software companies. They can be considered a basket of various stocks but can be purchased on any exchange. Many ETF’s specialize in blue-chip stocks, gold, and money markets, offering investors an option invest in many different companies with the purchase of just one stock.
When it comes to bonds, there are many different types with a vast range of risks and returns, with each bond having its own credit rating, similar to a personal credit score. Bonds are given a rating based on many factors, such as the company’s debt, revenue, future forecasts, and profitability. There are three main credit rating agencies that give ratings to various financial securities, which are Standard & Poor’s Global Ratings, Moody’s, and Fitch Ratings. The ratings typically range from AAA to a D rating, with AAA ratings meaning the bonds are incredibly safe and secure, to a D rating, meaning the bond is tremendously risky and the rating agency predicts the bond will default.
The bonds that have a rating of BBB, A, AA, and AAA are considered to be investment-grade bonds and are relatively safe. Investment-grade bonds are the bonds investors need to focus on and not junk bonds. Although the allure of a high return on junk bonds can be tempting, investors need to keep in mind they have high returns for a reason, mainly due to their inherent high risk for defaulting or devaluation at the time of reselling the bonds if an investor chooses to.
Some of the riskiest financial securities a person can invest in are futures, options, and micro to small-cap stocks. These types of investments are typically done by highly experienced financial professionals due to their complexity and their incredibly high risk of losses. Futures contracts are derivatives that bind two parties together for the sale of an asset and at a prearranged price and date in the future. A buyer of a futures contract must buy and a seller of a contract must sell their assets in the contract, despite the stocks, bonds, or assets that are being sold are going for a different price on the open market.
Options contracts allow buyers the opportunity to buy or sell the asset it represents, depending on the position of the contract they own. When compared to futures contracts, options do not require the owner on the contracts to buy or sell the assets they have.
Small to micro-cap stocks tells investors the total value of a company’s stocks that are available on the market. Small-cap stocks can range in value from about $300 million to $2 billion and micro-cap stocks have a total stock value between $50 million and $300 million. The reason why small and micro-cap stocks are considered to be high risk is due to their volatility and are some of the riskiest stocks to invest in. These companies can be relatively new, with limited capital, and have no history or a proven record of performing well. At the highest level of risks, investors can see tremendous profits that are greatly higher than the inflation rate, while at the same time, some investors can see significant losses as well.
As with all investing, individuals will need to do their due diligence regarding the stocks, bonds, or ETF’s they are looking to invest in before committing to the investment, ensuring the assets and financial securities are within their risk levels for example. It is vital to have a well-diversified portfolio of investments that is not exposed to too much risk and has a balance of blue-chip stocks, bonds, T-bills, and ETF’s, also have a rate of return that is higher than the projected inflation rate of 5.4% in 2021.
Read Smart Investing for Beginners and Do this Before You Start Investing
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