Investing offers the best opportunity to build financial security for you and your family. But there are some pitfalls that you need to prepare yourself for.
Getting started with investing isn’t as easy as just picking stocks and jumping in. The investment world is full of confusing jargon, financial instruments, and hidden pitfalls. It’s important for any budding investor to understand some fundamentals of investing and trading before jumping in. That’s why we’ve compiled this list of facts and tips to help you on your way.
Safe Haven Investments Like Gold Boom During Recessions
Safe harbor investments are used to hedge during a recession. These assets are often viewed as a type of insurance against severe downturns, protecting investors’ portfolios.
Traditional safe haven assets include currencies like the Swiss franc (CHF) or hard assets such as gold.
In wake of the COVID-19 recession, gold has been a big winner. It’s up 33% year-to-date and for most of the year has outperformed all major commodities. In August, gold broke the $2,000 barrier for the first time in history. This rally was driven by huge government stimulus packages and rock bottom interest rates causing a surge in demand for gold. Yields are at all-time lows and investors are looking to preserve their purchasing power and hedge against losses.
Yet, gold is volatile, and as dollar and market sentiment and yields change, expect gold to slide and rise repeatedly.
Savvy investors usually keep some portion of their portfolios in safe-haven assets. This insures their portfolios against surprise market downturns: the gains from these investments can help to offset the losses experienced elsewhere.
If investors think a recession is coming, they will often attempt to rebalance their portfolios to protect their finances.
Around 44.8% of American Households Own Mutual Funds Despite Index Funds Often Being a Better Choice
In 2018 around 44.8% of American households owned mutual funds. This represents around $17.71 trillion in value. Mutual funds are typically actively managed funds that use the pooled resources of their clients in order to beat the market. The problem with mutual funds comes down to one thing — high fees.
Actively managed mutual funds often have an expense ratio of 1.3-2.5% on top of the additional front- or back-loaded sales fees many funds charge. This adds up fast. If a mutual fund beats the market by 10% with an expense ratio of 2% then the real return is just 7%. Consider the situation if a fund manager fails to beat the market. Indeed, over the past 10 years the majority of U.S. actively managed funds underperformed against their benchmarks.
Embed: Retirement Plans: Last Week Tonight with John Oliver (HBO) John Oliver eloquently explains the pitfalls of high management fees.
In comparison, index funds are passively managed and follow the market. This means your portfolio might grow by a smaller margin than mutual funds but your expenses are only around 0.2-0.5%. This means that for most new investors, index funds are a wise choice.
Over $5 Trillion in Currencies Is Traded Every Day
One of the ways investors can make money is by trading currencies on the foreign exchange (forex) market. Forex trading is one of the biggest markets by volume in the world. It also attracts many day traders.
When you trade forex you are trading on the exchange rate between two currencies. This is why each forex trade is depicted as a currency pair, using an abbreviation for each currency: for example, USD stands for US dollars and EUR stands for euros. In every currency pair, there is the base currency (representing the one being sold) and the quote currency (representing the one being purchased). The exchange rate is the amount of base currency required to purchase the quote currency. For example, $1 USD currently equals €0.85 EUR. So USD/EUR = 0.85.
If you were trading USD/EUR, you would buy if you believed the exchange rate was going up or you would sell if you believed it was going down. This is how traders profit: on the price movement of the underlying asset.
Currency pairs fall into three main categories:
Major currencies are the most traded currencies on the market. These include EUR/USD, USD/JPY, GBP/USD, and USD/CHF.
Commodity currencies are currency pairs of countries that are rich in commodity resources. An example is AUD/USD. Since Australia is the second largest producer of gold (behind China) its currency can serve as a proxy for gold. So AUD/USD has traditionally tracked with the price of gold.
Cross currencies are currency pairs that don’t include the USD. Examples include EUR/GBP and EUR/JPY.
Note: GPB stands for the British pound, JPY stands for the Japanese yen, and AUD stands for the Australian dollar.
It's important to remember that forex trading comes with a higher level of risk than long-term investments like index funds. But some long-term investors hold cash in other currencies. There are multiple ways to do this including via single or multi-currency ETFs or mutual funds.
Some, like the MERK Hard Currency Fund (MERKX) include various currencies and securities like treasuries.
Know the Risks and Don’t Trade Money You Need
The key thing to remember in short-term trading is to only commit money that you can afford to lose. It’s also important to take time to understand the market that you are entering, whether you’re a short-term trader or long-term investor.
If you do that, and try to avoid taking unnecessary risks, you will be able to slowly build a comfortable buffer for you and your family.