Investment Basics
CHAPTER PLAYLIST SONG:
“For the Love of Money” by The O'Jays
McGraw-Hill/Irwin
Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.
Learning Objectives
 LO 11-1 Distinguish between savings and
 LO 11-2
 LO 11-3
 LO 11-4
 LO 11-5
investments.
Analyze the risk and return on varying
investment products.
Interpret the hierarchies of the investment
pyramid.
Examine the importance of varying your
investments.
Compare portfolio asset allocations for the
different personal finance life stages.
11-2
Savings vs. Investments
Who is rich? He that is content. Who is that? Nobody.”
~ Benjamin Franklin
 How much money should you have in savings vs.
investments?
 What is the difference?
“Savings is not to make you rich, but it is to keep you
from being poor.” ~ J.B. Quinn
 Savings – No or low-risk investments with low returns.
11-3
Should You Save or Invest?
Figure 11.1
11-4
Impact of Inflation on Savings
 Inflation is
 Savings - retain your purchasing power by
 Investing - beat the inflation rate
 Bureau of Labor Statistics Consumer Price Index page
 Consumer Price Index from 1913 – present
11-5
Insured Savings
 FDIC –
 NCUA –
 United States Treasury Bills, Notes, and Bonds

 Risk Premium – The difference between the risk-free
rate of return and the expected yield of an
investment with risk.
11-6
Risk of Investing
 Investing has risk – the chance of losing some or all
of your investment
 To compensate for risk and entice an investor,
investments with risk must pay a premium
 Risk premium –
 “Zero” risk – FDIC, NCUA, U.S. Treasury bills, notes,
and bonds – risk-free rate
11-7
Types of Risk
 Default Risk or Credit Risk – Risk that the
company invested in may declare bankruptcy



2009 Chrysler bankruptcy: bondholders received $0.26 for
every dollar they invested
Bondholders could lose their entire investment
FDIC and NCUA will insure deposits up to $250,000 until
December 31, 2013, when the cap will revert back to $100,000
11-8
Types of Risk
 Interest Rate Risk – Risk taken on when you lock into
a fixed-rate investment for a specific length of time
11-9
Types of Risk
 Interest Rate Risk – Risk taken on when you lock into
a fixed-rate investment for a specific length of time
11-10
Types of Risk
 Market Risk – The risk that the value of your
investment will decrease due to changes in the
market



11-11
Types of Risk
 Liquidity Risk – The
risk that you will not be
able to
11-12
Analyzing Your Risk Tolerance
 How much can you afford to lose?
 Rule of thumb: The higher the risk, the higher the
potential return and the less likely you are to achieve
the higher return
 Risk tolerance quizzes
 Rutgers University’s Investment Risk Tolerance Quiz
 money.msn.com
11-13
Investment Pyramid
11-14
Diversification of Assets
 Diversification –
 Why is diversifying your investments important?
 Portfolio – Holding more than one investment
 Asset Allocation –
 Diversified Balanced Funds – Both equities and
bonds
 Targeted and automatic asset allocation mutual
funds
11-15
Asset Allocation for Target Date Funds
 T. Rowe Price Balance Fund (RPBAX)
 Vanguard Target Retirement Fund
Asset Allocation Tool
11-16
Portfolio Evaluation
 Re-evaluate your investment goals, risk tolerance,
portfolio returns, and asset allocation
 Pick an easy date to remember to rebalance your
portfolio


January 1st

11-17
Life Stages and Accounts How Should the Assets Be
Allocated?
 Independent (16-24)
 529 College Savings Account
 Retirement Savings


 Early Family (25-44)


529 College Savings Account


Auto Down Payment
11-18
Life Stages and Accounts How Should the Assets Be
Allocated?
 Empty Nest (41-65)



Funds used within the next 10 years
 Retirement (66+)
 Retirement funds
 Investment funds

11-19
Continuing Case
 Blake bought into a stock mutual fund as a
retirement investment 6 months ago. Ever since
then, he has watched the prices slowly drop each
month. He is afraid that it will soon be worthless. He
is tempted to cash in the stock and move what funds
are left to another instrument. What advice would
you give him?
11-20