Today, we often hear the term “investing” being used as a buzzword in our conversations.
I am “investing” my time to exercise and be healthy. Hence, I am setting aside my time for the purpose of being more healthy.
In the context of financial investment, we touch in-depth on how one can use their money to grow money. We will talk about investments, the risk and rewards of investing.
Starting young
Before we go into why we should invest, let me introduce you a very simple concept called compounding in which I believe that many of you already know or have heard of.
Supposedly you have $10,000 today and you put it in your bank savings account which pays you an annual interest of 5%.
With the interest rate of 5% in your first year , you should receive an approximate value of ($10,000 x 1.05 = $10,500). This $500 seemed to be a small amount but it gets compounded as the years goes by. In 20 years, your capital of $10,000 would have become $10,000 x 10²⁰ which amounts to $26,500 or $70,000 if you were to hold it for 40 years from the day you start. So how does compounding interest relates to investing early? Investing early allows you to compound your returns that you have gained with the assumption that you re-invest the gains.
With the concept of compounding, now let’s have a look at the annualised returns of S&P 500 ($SPX) index since its inception.
For those who are unaware, S&P 500 is a market index that tracks the performance of the top 500 companies listed in the various United State (US) stock exchanges. From the graph above, we can see that the index does not always guarantee a return as it fluctuates up and down. Based on past records, the average annualised returns for the S&P index since the 1990 is approximately 8%. That is 8% of compound interest annually! Comparing this to leaving your money in the bank that earns you less than 1% annually, this is of significance as the years stacks up. Taking into account an annual inflation rate of 1.4%, you are likely to lose some of your money earned from leaving it in your bank!
Rewards and Risks
Of course, when we talk about the upside of an investment, we have to talk about the risk that comes with it as well. There are always risk when it comes to investment. As we all know, not all companies can make a profit and some even end up closing down. Not every stock you buy in the stock market will make money and you may even lose all of your capital. Hence,it is very important that you only invest what you can afford and willing to lose. However, we should also note that there are different ways and strategies to minimise the risk, which will be touched on in the near future. For now, we just have to understand that investments does not always guarantee you returns and may even cause financial loss! Hence, you are advised to always do your due diligence before starting to invest.
With the basic knowledge of investments and the importance of starting early, one will pose the question of “How do I start investing and how much do I need initially?” In my next article, I will share more on the types of instruments available in the market for investing and the platforms available. I will also share more on the investing strategies and the know-hows to evaluate them.
