How to Grow My Money (Part 1): Investment Basics

Thinking of growing your money but don't know where to start?  You swear you need to pick up that Investment for Dummies book from the library one day but you never did? Well, let’s put your money where your mouth is and get you started. 

The whole idea of investing is to put your existing money or capital to work for you, with the eventual goal of a net addition to your initial pool. This desired result is what is called capital accumulation.

Think about it this way. Typically how we accumulate more money (short of striking the lottery) is by getting a job and working for a salary that we save some portion of. If we want to earn more money, we have to work more but there is a limit to how much we can work in a day. Since we can't send ourselves into some parallel world and have our doppelganger work double time, we have to send a part of ourselves – our money – to work, even as we are putting in hours at the office or sleeping or enjoying our weekends. 

If you are new to the idea of accumulation and investment, or your brain just goes into auto flight mode when you hear such terms, this two-part introduction is meant to ease you into the topic.

OF VIDEO GAMES & COLLECTORS’ CARDS

One fundamental and basic way to view capital accumulation is by knowing the different asset classes, or types of investments, accessible to you and how they can work for you. There are 3 major asset classes: equities (stocks), bonds (fixed income) and cash (or cash equivalents). Nowadays, it is also common to add real estate to the mix.

Let’s do this by bringing you back to childhood.

10 year old Tom has been eyeing this new video game for some time. The only problem is, it costs $20 and he only has $10 in his piggy bank. How is he going to get that extra $10? Well, MacDonald pays $5 an hour to work but he would never get pass child labour laws. Plus, any time he has left over after going to school and doing homework would be devoted to conquering more lands in Warcraft.

What's a boy to do to grow $10 to $20?

 

Equities (stocks): Owning a piece of a company

The reason why equities, or stocks/shares, exist is because at some point of a company’s life time, they need to raise money to start a new business, expand, tide over a rough patch, etc. They do this either by borrowing money or selling a part of the company (also known as issuing stocks).

Luckily for Tom, he has some rather well-connected and enterprising good friends. Evan just told him he has an older cousin who has amassed a huge pile of collectors cards that he is intending to offload because his wife says there is no space in their new house for it. He will sell it to Evan at a bargain, $50 for every set of 25 cards, just because Evan is so cute and chubby.

Now Evan also has just $10 in his piggy bank (well, you are the average of the 5 persons you spend the most time with, even as kids). To kickstart this little enterprising project of his, he must get his hands on one set of cards, so he needs an extra $40. Evan cajoles Tom (and 3 other video gamers) into putting in his $10 for this little business, undertaking to sell each of the 25 cards at $5 and giving Tom one-fifth of the share of the sales, i.e. $125/5 = $25

From putting in $10 into this little outfit, Tom can get $25 back, more than double his initial investment! He can buy his new video and still have $5 left (For a MacDonald meal! Yay!).

Of course, Evan did not tell him how long he will take to sell all the cards, nor is there any guarantee that he can sell them all and at $5 each. Tom will have to check in on Evan now and then to see how he is doing, whack him if he is playing video games instead of trying to peddle off his wares.

 

Bonds (Fixed Income): Lending money

If a company does not want to sell a part of it to outsiders, it can choose to borrow from a bank or issue bonds. When you purchase a bond, you are lending out your money to a company (or government). In return, they agree to give you interest on your money and eventually pay you back the amount you lent out.

In the case of our little friends, Evan decides to borrow $10 from Tom instead to fund this little business. He says he will return Tom $10 at the end of 6 months, and promises to give $1.50 every month to Tom for his kindness.

Oh, $19 is not enough to buy his video game yet but at least the shortfall is smaller.

So Tom will expect to get back $19 in total at the end, and he is assured of the return of $19 because Evan’s cousin has guaranteed it.

 

Cash and cash equivalents

Cash tends to be held in a bank account where interest can be earned.  Just some time ago, we saw a deluge of up to 2% deposit rates offered by banks here to get your money into their vaults. Cash equivalents are termed as such because they are highly liquid investment securities that are short-term, with minimal risk of change in value and therefore can function almost like cash - available for immediate use. Examples include bank certificates of deposits, money market funds, Treasury Bills.

Tom has one other option. Which is to be honest. He can tell his mum he really wants that video game. In return, he will be a good boy, and give his $10 to her for safekeeping, as well as pledging to save 50 cents every week.

Mum said for every $10 he saves, she will put in $1 for him as an incentive and reward for his perseverance.

This will take some time for Tom to reach his $20 target and some dieting (gotta resist that extra popsicle!) but he knows he will get there eventually.

 

Real estate

This is really hard to explain with the example of our little friends so I’ll go back to the dry way. Real estate is “property consisting of land and the buildings on it…” (Wikipedia). For all those curious souls, if you want to know why it’s called “real” estate (and not fake), you can check out this Quora thread or this academic explanation.

Real estate investment is somewhat of a national hobby or passion of Singaporeans, as we like to call it.  We’ve seen people turn millionaires from “flipping property” and indeed, it has plenty of opportunities for making huge gains, but “flipping” real estate is a lot more complicated than, if I may say so, investing in stocks and bonds. The outcome depends a lot on the property market which tends to be more regulated by the government, as we have seen in Singapore recently. It also means you must start with a lot more capital to pay the down payment, mortgages and whatever fees that come with it.

Another popular way to invest is to buy a property and rent it out to a tenant, charging rent that more than covers your monthly mortgage. However the heyday of such passive income is gone in Singapore.

AM I READY TO INVEST? HOW?

Now you know what types of investment are available to you. The next crucial step is to know which type of investment is suitable for you. In the second part of this blog series (look out for it by following my FB page), we will walk you through the process involved in considering investments - by knowing their characteristics, your investment objectives and how they match up.

Taking control of your personal finances takes effort and for some, it is a steep learning curve. Even if you have a financial adviser, no one is in a better position than you are to know what you want and what is best for you.

Finally, don’t be afraid to ask. If you have questions after reading this, I’d love to hear from you. If there is something you wished I’d covered, let me know too and I’ll be on it. 

References: www.investopedia.com | www.accountingtools.com