In California and many other parts of the United States, school-age children learn about the 19th-century gold rush that led tens of thousands to move to California in hopes of striking it rich. As school children learn about this epoch, a common activity is to “pan for gold”, ultimately finding some iron pyrite, or “fool’s gold“.
While children are typically thrilled with their panning results, an actual prospector might be less excited. At the time of this writing, the price per gram of gold is more than 5000 times that of iron pyrite. And the truth is that the fundamental value of iron pyrite is even lower–it only maintains the price it has because of its novelty value.
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A dividend is a payment that is made by a company to its shareholders. Usually the payment comes out of the profits of the company and represents a share of a company’s ongoing earnings.
Over time as a company does well and earns higher profits, it can increase its dividend to its shareholders. Conversely, companies that encounter trouble can lower their dividend. Unlike interest from an FDIC bank account dividends are not guaranteed: companies may stop or start paying dividends at any time.
Some companies choose not to pay a dividend to their customers, opting instead to use all of their profits to further their business opportunities or invest in new projects.
An index fund is a type of mutual fund that is designed to hold securities that mirror a specific financial index.
To understand what exactly this means, let’s first explain what an index is. An index is a simply a listing of a group of securities that meet certain characteristics. Many indices are composed of the stocks of companies that are, in aggregate, meant to represent the overall economy. Both the S&P 500 and the Dow Jones Industrial Average are indices like this. You can’t invest directly in an index, though; it is simply a measurement, not a security in and of itself.
Index funds, then, are meant to allow people to invest in a way that closely mirrors the performance of the index. They focus on holding a diverse set of underlying investments that are passively managed. That means that there is no stock manager that is constantly buying and selling the underlying investments. The index is set once, and modified on a very periodic basis. For many investors, this is a low-cost way to invest in a diverse set of companies.
Over at the always-excellent Get Rich Slowly blog, Robert Brokamp makes the case for buying stocks. He suggests that the next time you want to buy something you don’t absolutely need (like Coca-Cola), that you consider buying stock in the company instead. The difference between the two is that the product is consumed immediately, and the stock has the potential to grow over time:
You can buy a product, or a piece of the company that makes it. Because that’s what a share of stock is: a real-life, honest-to-goodness ownership stake in a company. You’re not just buying a piece of paper; you’re buying a business.
Buying things that reproduce (stocks) rather than things that disappear (the product itself) is a case that Warren Buffett has made many times. It’s simple idea, but one that’s worth revisiting every so often.
Of course, buying individual stocks isn’t for everyone, and we always recommend diversifying investments, either by using mutual funds or otherwise. But it’s a good reminder to spend our money on things that provide a return far into the future.
Are there any things on which you regularly spend money that would be better spent on buying investments?
Image via Omer Wazir
If you go through our blog posts, you’ll find that we rarely talk about specific investments here. One reason for that is that, in general, being a successful investor has very little to do any particular investment. In fact, it is almost wholly about understanding how to invest properly, and then following through with consistency.
Anybody who has established strong habits–good or bad–knows the tremendous power they carry with them. Many people are zealous about their daily walk or run. Other people like to check their email first thing in the morning, or read a book every evening when they get home. If you have a strong habit, think about how much effort you have to exert to slip into that habit: chances are, the answer is “almost none.” That’s because the decision making is already done. You don’t have to make up your mind anymore. You just execute automatically.
But the sad fact is that many of us just don’t get around to forming the same kinds of financial habits. We rely on our best intentions and a hundred day-to-day decisions to come together for our financial good.
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Fixed income securities are a type of financial instrument that pays out a stable, or ‘fixed’ amount over the life of the instrument. If you buy a bond, or loan money to a friend, and they pay you back the same amount every month, that would be an example of a fixed income instrument.
While these types of products can sometimes be guaranteed by banks backed by the FDIC, or by insurance companies, you can also buy fixed income products that might be at risk of loss. Those that have the risk of loss often pay higher amounts to compensate you for the added risk. Fixed income products are often used by people that want predictable income, like retirees.
If you’d like to learn about how bonds and other fixed income securities differ from stocks, check out this Investing U article.
A little inspiration goes a long way, so we dug up a few of our favorite investing quotes to get your investing juices flowing for the year ahead.
1. “I will tell you how to become rich. Close the doors. Be fearful when others are greedy. Be greedy when others are fearful.”
- Warren Buffett
2. “It’s not how much money you make, but how much money you keep, how hard it works for you, and how many generations you keep it for.”
- Robert Kiyosaki
3. “You have to learn that there’s a company behind every stock and there’s only one real reason why stocks go up. Companies go from doing poorly to doing well or small companies grow to large companies.”
– Peter Lynch
4. “Investing should be more like watching paint dry or watching grass grow. If you want excitement, take $800 and go to Las Vegas.”
-Paul Samuelson
5. “The four most dangerous words in investing are: ‘this time it’s different.’”
- Sir John Templeton
And one bonus quote just for the fun of it:
“If I’d only followed CNBC’s advice, I’d have a million dollars today. Provided I’d started with a hundred million dollars.”
- Jon Stewart
Images via tornatore, Robin Stott
Here at GoalMine, we are devotees of value investing, the philosophy that one should seek out investments that are trading for less than their intrinsic value. Basically, value investing argues that eventually, “truth will out”, and the true value of an investment will be reflected in its stock price and/or dividends paid. It’s a philosophy that requires patience and a willingness to stick through the tough times, as this price adjustment can sometimes take a while in coming.
“But shouldn’t the markets already take all available information into account?”, you ask, “Shouldn’t they prevent any investment from trading at an incorrect price for any reasonable length of time?” Believe me, I’ve asked that same question. The problem is that pricing an asset is effectively an exercise in predicting the future–and nobody is all that good at predicting the future.
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FDIC stands for Federal Deposit Insurance Corporation. The FDIC, a US government organization, was created in 1933 in response to the Great Depression, and was designed to help create a more stable banking system. The purpose of the organization is to provide insurance protection to depositors in the case of a bank failure. Banks pay into the insurance fund to cover losses when they arise.
Deposits at many banks are FDIC insured. This means that, up to the legal limit (currently $250,000 per depositor per institution), your money is rock solid safe. If a bank should fail, the FDIC, backed by the US government, will ensure that you get your deposits. Mutual Funds and other securities, however, are not bank deposits and are therefore not insured by the FDIC.
Warren Buffett: Why stocks beat gold and bonds
The following post considers a recent article by Warren Buffett. This article is the opinion of Mr. Buffett alone, and does not represent the opinions of GoalMine, nor should it be construed as investment advice.
Warren Buffett recently published an adapted excerpt of his annual shareholder letter that has people talking. In it, he makes the case that stocks almost always beat other investment alternatives over time. He divides investment opportunities into three categories:
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