Knowing your financial goals is key before you choose your investment portfolio holdings. Even if you're an experienced investor, it's important to get objective and sound advice from a qualified adviser. Understanding your financial needs and goals for both the short term and long term are important to determine where your money will be invested.
Short-term investments are held for a limited period of time, usually with a specific intent in mind. An education fund for child who will be starting college in a few years, or a family's emergency fund are two examples of money that might be placed in a short-term investment. An investment for the long term might be earmarked for a purpose far into the future, such as a retirement fund begun by a young individual just entering the workforce.
Investment returns are variable. An investment might earn money one year and lose it the next. A lower-risk investment will have less volatility, so the investment's principal is more likely to be protected. A higher-risk investment can see huge swings between earnings and losses. Since a long-term investment is held for several years or decades, higher-risk investments are possible because they can ride out changes in the market. A higher risk in this case might also be preferable since over the long term higher-risk investments have greater returns. A lower-risk investment is preferable in a short-term investment to ensure the money is there when it's needed.
Types of Investments
A savings account or certificate of deposit purchased through your financial institution is a safe short-term investment because these are generally insured by the Federal Deposit Insurance Corporation. Money market funds are not guaranteed, but generally are also quite safe since law requires them to be invested in low-risk, short-term securities. Money market funds may earn higher returns than a CD or bank account. Investors who want to protect their short-term investment might choose one of these vehicles, or a short-term bond fund. A short-term bond fund earns higher returns than a money market fund but is also a riskier investment. Stocks are high-risk investments that should be held for the long term.
A diversified portfolio is less risky than one that is concentrated in high-risk investments. This is because investing in different kinds of assets generally means at any given time, some of those assets will go up while others go down. All investing involves risk; diversity is one way to guard against losing big money as a result of that risk.
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