Lesson P201.4 · Personal Finance 201: Build Wealth
Investing basics: how money grows and what it costs
4-minute read · No dated figures
Photo: Towfiqu barbhuiya / Pexels, Pexels License
The short answer
Investing means owning small pieces of many businesses, and sometimes loans to companies or governments, for years at a time so your money can grow while you work. Growth compounds: what you earn starts earning too. Fees compound the same way, against you. Spread your money across many investments, know every fee, and don't react to headlines.
How money grows
Compound growth is slow at first and fast later, because your gains start earning gains of their own.
Example (made-up returns, not a promise): put $300 a month into investments for 30 years. You put in $108,000.
| Made-up yearly return | Balance after 30 years |
|---|---|
| 4% | about $208,200 |
| 8% | about $447,100 |
At 8%, about $339,100 of that balance is growth, and most of the growth shows up in the last 15 years. Real returns jump around, and some years lose money. These figures assume monthly deposits and leave out taxes and fees.
What you can own
- Stocks are small pieces of a company. They can grow a lot over long stretches and can drop hard in a bad year.
- Bonds are loans to a company or a government that pay interest. They're usually steadier and usually slower.
- Funds hold many stocks or bonds in one purchase. Mutual funds, index funds and exchange-traded funds (ETFs) are all funds.
Diversification means spreading your money so one company's trouble can't sink you. One fund can hold hundreds of companies. Putting most of your money in one stock, including your employer's, does the opposite.
Fees compound too
Funds and advisers charge fees, and a 1% yearly fee sounds small.
Example (made-up numbers): $100,000 invested for 20 years. Both choices earn a made-up 6% a year before fees.
| Yearly fee | Left after 20 years |
|---|---|
| 1% | about $265,300 |
| 0.1% | about $314,700 |
Same return before fees, almost $50,000 apart, because every dollar paid in fees also stops growing. Whatever you choose, know every fee and what you get for it, and get them in writing.
Know your goal and keep your head
Tony Robbins' book MONEY Master the Game has a step called "What's the Price of Your Dreams?" Put a dollar figure and a date on what you're investing for, and the monthly amount gets real.
Robbins and Peter Mallouk's book Unshakeable teaches that markets can't be timed, that drops will come, and that you should prepare for them and keep your emotions out of your decisions. Ramsey also teaches buying and holding through the ups and downs, and warns against chasing returns or selling in a panic.
If you work with a professional, look them up first. FINRA's BrokerCheck and the SEC's adviser search show licenses and any disciplinary history for free, and the SEC says to always check that a financial professional is licensed.
Different approaches
Where respected teachers differ
Ramsey recommends growth stock mutual funds with long track records, chosen with an investing professional, and calls index funds acceptable but average. Caleb Hammer suggests index funds and ETFs for beginners, and Tony Robbins and Peter Mallouk's book Unshakeable makes the case for low-cost index investing. All of them agree: invest for the long term, stay diversified, and don't react to headlines.
Your Move
Do this week
- Write your "price of your dreams": what you're investing for and about when.
- Run a compound growth calculator with your own numbers: your monthly amount, your years, and a low and a high made-up return. The SEC's free calculator on Investor.gov works, and Kiplinger publishes free calculators too.
- Find the yearly fee (the expense ratio) for each fund in your retirement account and write it down.
- If someone manages your money, look them up on BrokerCheck.
Log it: Growth calculator run.
Common questions
Should I buy index funds or mutual funds?
Respected teachers differ; see the box above. All of them agree on investing for the long term, staying diversified and not reacting to headlines.
What should I do when the stock market drops?
The teachers in this course agree: stay on your plan and don't react to headlines. Unshakeable teaches that drops will come and that nobody can time them.
Is investing in the stock market gambling?
Owning many businesses for many years is investing. Betting on short-term price moves is speculation, and lesson P201.5 covers it.
Watch out for
- Fees you can't see. Ask for every fee in writing, including how the adviser is paid.
- Most of your money in one company, including your employer's stock.
- A can't-miss tip from a friend or a post. Lesson P201.5 covers why.
Free help
- SEC, Investor.gov: Compound interest calculator
- FINRA: BrokerCheck
- SEC: Investment Adviser Public Disclosure
- SEC, Investor.gov: Check out your investment professional
Free practice
Lesson check
5 questions on this lesson, one at a time, with the answer and the reason after each. Pass with 4 right, including every must-know question.
This is general education, not tax, legal, investment or insurance advice. Rules change and every situation is different. Check the sources below, and talk to a qualified professional before you act on it.
Sources
- Simon & Schuster: Unshakeable, by Tony Robbins with Peter Mallouk
- Simon & Schuster: MONEY Master the Game, by Tony Robbins
- Ramsey Solutions: Dave's investing philosophy
- Ramsey Solutions: Index funds vs. mutual funds
- Caleb Hammer: How to start investing
- Kiplinger: Tools and calculators
- FINRA: About BrokerCheck
- SEC, Investor.gov: Check out your investment professional
- SEC, Investor.gov: Compound interest calculator
- Worked examples: growth figures use monthly deposits at the stated yearly rate divided by 12; fee figures take the fee off the 6% return each year (5% and 5.9%).