2 Nov 2023
Investing is something that’s not easy. Therefore we are going to discuss the basics: What is investing? What can you achieve with it? What are some key concepts?
What is investing?
You can grow your money with investing. This growth is called “return”. Return is the profit you make from your investment. You can make this profit in two ways:
Increase in value: you can sell your investment for more money in the future
Periodic payment to you, while you have the investment in your possession: this can be through an interest or a dividend payment (more information about this below)
Return is expressed as a percentage. So, if you made an 8% return on an investment of EUR 100, you have earned EUR 8.
The general expectation is that a portfolio of well-diversified investments will show a positive return over the longer term. The past has proven this! Therefore, it is a good way to build personal wealth over the long term. But you also run risks. For example, there is a risk that the investments will be worth less when you sell them again. Always remember: “past results are no guarantee for the future”.
You can invest very defensively (or “conservative”), but also very offensively (or “aggressive”). Defensive investors don’t take too much risk. However, they can then expect a lower return. Offensive investors have a greater chance of higher returns, but also accept a higher risk that their investments will be worth less. In short, you see that risk and expected return go hand-in-hand. This is one of the most important principles of investing.
As an investor you can choose how much risk you want to take.
Some important terms
When you buy shares in a company, you are becoming one of the owners. Is the business doing well? Then your shares will rise in value. Is the company not doing well? Then your share will decrease in value. As a shareholder you can also receive dividend payments. Dividends are simply a distribution of a company’s profits to shareholders. This is how companies reward their shareholders.
In addition to buying stocks, you can also invest in bonds. A bond is a loan issued by companies (corporate bonds) or governments (government bonds). When you buy a bond, you are basically lending money to a company or a government. In return, you receive interest payments. When you buy a bond, you run the risk that a company or government cannot meet the annual interest payment. In some cases, this loan cannot be repaid at all — for example in case of bankruptcy. You also run the risk that the price of the bond on the exchange will be lower than the price you paid for it.
In general, bonds have less risk than stocks, and therefore generally have a lower return.
You can also invest in a mutual fund. In a mutual fund, the money of different investors is pooled and managed by a fund manager. They can invest in various shares, but also, for example, in bonds, real estate or in a combination of these.
This ensures diversification and the investor doesn’t have to worry about managing it — as the fund manager does this. Diversification reduces risk because if one investment does poorly, you have other investments in your fund that can outperform at the same time.
An Exchange Traded Fund actually offers a combination of mutual funds and individual stocks. When you buy an ETF, you are essentially buying a small portion of a basket of investments (such as stocks or bonds), which is built to track a specific index and thereby provides the same return as the index. This can be a large, well-known stock index, such as the AEX, MSCI World or S&P 500, but also a smaller index, which provides exposure to a specific part of the market. For example, there are ETFs that focus on emerging market equities, corporate bonds or equities with hedged currency risk.
History has proven that investing is an attractive way to build wealth for the long-term. However, investing also has risks. You may have to sell investments when their value is lower than what you bought them for. Fortunately, as an investor you can choose how much risk you take. The more risk you take, the more expected return, but also the greater risk that the outcome will be negative.