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Money Lesson #3: Investment Vehicles

October 5, 2007 by Pinyo.

This week lesson with my wife was about different investment vehicles. I am not an investment guru, so our conversation was mainly around the ones we do use. However, I did some Google searches and included other investment vehicles I do not use for the sake of completeness (links are pointing to Wikipedia).

chasing the market

Photo from stock.xchnge

Various Investment Vehicles

I categorized investment vehicles into four groups relative to their risk and reward potential.

Cash and Cash Equivalents

These are low risk investment vehicles that can be easily liquidated into cash, with mandatory holding period of 12 months or less. They typically provide very low return on investment, and little or no inflation protection.

Between the two of us, we carry very little cash around preferring to use our credit cards with rewards when possible. We do have some cash in checking account, savings account, money market, and CDs for emergencies and regular expenses. As for whole life insurance, I don’t think it is a good investment vehicle; however, my wife does have one. For me, I just have a low premium term life and use the difference to invest in the stock market. Lastly, I have never dabbled in treasury securities before, but include it here for completeness.

Here is the list of investments under the cash and cash equivalents group:

Cash
Savings Accounts
Certificates of Deposit
Money Market Funds
Whole Life Insurance
Treasury Securities (Treasury Bills, Treasury Notes, Treasury Bonds, and Saving Bonds)

Low Risk Investments

We don’t own any of these and I am not familiar with them. The only exception is bond funds — I had a small amount previously invested in my 401k. However, I think being completely bond free may make our portfolio more risky than necessary, and I have been thinking about adding back some.

Here is the list of investments under the low risk investments group:

Moderate Risk Investments

The majority of our retirement money falls into this category of investment vehicles. They provide the best balance between risk and reward for long-term investing.

When I used to be a more active investor, I used to invest more in stocks than mutual funds. The majority of my stocks were blue chip stocks (i.e., DOW and S&P500 stocks). Now most of my investments are in low-expense mutual funds and ETFs; including about 5% in REIT funds and ETFs. Although investing in individual stocks can bring greater reward, it is also riskier. In the end, I found it better to diversify with funds and ETFs; and leverage asset allocation instead.

The only real estate we own is our house, and I don’t consider our primary residence an investment — although it has more than tripled in value in the past 10 years.

Here is the list of investments under the moderate risk investments group:

Blue Chip and High Quality Stocks
Stock Mutual Funds and ETFs
Moderate Yield Bonds
Real Estate Investment Trust (REIT)
REIT Funds and ETFs
Real Estate Ownership and Rental Properties
Royalty Trusts

Speculative Investments

I am a lay investor, and I am least familiar with these investments. My wife and I don’t have anything significant enough to be considered investment in this category.

Here is the list of investments under the speculative investments group:

Futures Contracts
Stock Options
High Yield Bonds (Junk Bonds)
Precious Metals and Gems
Penny Stocks (Microcap Stocks)
Emerging Markets
High Risk Mutual Funds and ETFs
Short Selling
Antiques, Stamps, Coins, and Other Collectibles
Foreign Exchange Market (Currency, Forex, or FX)
Hedge Funds

I hope this lesson helped my wife understand the various options she has when it comes to investing. I will have to think about next week lesson, but I will probably talk to her about which investment vehicles to use to achieve different financial goals.

I hope you enjoyed the lesson.

Other lessons:

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9 Comments

Jason, 5. October 2007, 13:31

I like how you use the term “speculative investments” instead of somthing like high risk.
Barbara Stanny, 5. October 2007, 15:06

I liked how you simplified these categories. Though sometimes the word “risk” can be misunderstood.

I believe our biggest risk financially is that our money will not grow as fast as inflation and taxes will take it away. Which is why we can’t put all our money in the bank, and think we’re living risk free.

Barbara Stanny, author, “Prince Charming Isn’t Coming: How Women Get Smart about Money.”
Pinyo, 5. October 2007, 15:24

@Jason - thank you. I think it’s safe to use the terms interchangeably.

@Barbara - welcome to Moolanomy. Great point about inflation risk; in fact, I have a post about it coming up next week.
Mrs. Micah, 7. October 2007, 17:57

I’m curious–how would you classify indexes?
Pinyo, 7. October 2007, 18:29

@Mrs. Micah - I assume you meant index funds or ETFs. It depends on what is it indexing. For instance, bond index would be low-risk, S&P500 index would be moderate, etc.
Mrs. Micah, 7. October 2007, 18:31

That makes sense. I was thinking S&P500, and moderate sounds about right. But good point about bonds.
Andy, 19. February 2008, 7:06

I enjoyed seeing a complete list of investment vehicles.
My question to you is now that the real estate bubble is collapsing, and stocks are faltering, whats the next investment vehicle the masses will move their money to?
Thanks
Andy
Pinyo, 19. February 2008, 13:32

@Andy - I would stick to your long-term strategy. If you stick by your asset allocation, everything should be taken care of. I’d guess the pie allocated to real estate is now shrinking compared to other asset classes.

If you regularly contribute to your investment portfolio according to the asset allocation, you are automatically buying more shares of real estate. If you rebalance, then you are also moving money from other asset classes into real estate.
Make Friends, Earn Money, 26. May 2008, 3:13

Brilliant post, really good summary of the various investment types and the portfolio which can be built from it. I thought the medium/moderate risk investment risks were especially well explained