Types of Investments

The Investment Lineup

In Requirement 4, you learned the principles of investing — risk, return, diversification, and compound interest. Now it is time to meet the specific tools. Think of these six investment types as different tools in a toolbox. Each one has a purpose, and smart investors use a combination of them.

5a: Common Stocks

When you buy a stock, you are buying a tiny piece of ownership in a company. If the company does well and grows, your piece becomes more valuable. If the company struggles, your piece loses value.

How stocks make you money:

• Price appreciation: You buy a stock for $50, and it grows to $75. You can sell it for a $25 profit.
• Dividends: Some companies share profits with shareholders by paying dividends — regular payments (usually quarterly) for each share you own.

The risk: Stock prices go up and down daily, sometimes dramatically. A single company’s stock can lose most of its value if the company has serious problems. That is why diversification — owning many different stocks — is so important.

5b: Mutual Funds

A mutual fund pools money from many investors and uses it to buy a collection of stocks, bonds, or other investments. A professional fund manager decides what to buy and sell within the fund.

Why mutual funds are popular:

• Instant diversification: Instead of buying one stock, you own a piece of dozens or hundreds of investments
• Professional management: A fund manager does the research and makes decisions
• Accessibility: You can invest with relatively small amounts of money

The trade-off: Mutual funds charge fees (called an expense ratio) that reduce your returns. Index funds — a type of mutual fund that simply tracks a market index like the S&P 500 — tend to have much lower fees and often outperform professionally managed funds over long periods.

5c: Life Insurance

Life insurance is unusual on this list because it is primarily a protection product, not a pure investment. When someone buys a life insurance policy, they pay regular premiums. If they die while the policy is active, the insurance company pays a lump sum (called a death benefit) to the person’s beneficiaries — usually their family.

Why it is listed as an investment: Some types of life insurance (called whole life or universal life) include a savings component that builds cash value over time. You will learn more about the differences between whole life and term life in Requirement 6.

Who needs life insurance: Primarily people whose families depend on their income. If a parent earns the family’s main income and dies unexpectedly, life insurance helps the family pay bills, mortgages, and living expenses.

5d: Certificate of Deposit (CD)

A certificate of deposit (CD) is like a savings account with a lock on it. You deposit a fixed amount of money for a set period — called the term — and in return, the bank pays you a higher interest rate than a regular savings account.

How CDs work:

• You choose a term (common terms: 3 months, 6 months, 1 year, 2 years, 5 years)
• The bank pays a fixed interest rate for the entire term
• When the term ends (called maturity), you get your money back plus the interest earned
• If you withdraw early, you usually pay a penalty

When CDs make sense: When you have money you know you will not need for a specific period and you want a guaranteed, predictable return with virtually no risk.

5e: Savings Account

A savings account is the most basic and accessible place to keep money. You deposit money at a bank or credit union, earn a small amount of interest, and can withdraw your money whenever you need it.

Key features:

• FDIC insured (up to $250,000 per depositor, per bank) — your money is protected even if the bank fails
• Liquid — you can access your money at any time
• Low return — interest rates are typically lower than other investments
• No risk — your balance will never go down (the interest rate might change, but your principal is safe)

Types of savings accounts:

• Regular savings: Basic account, lowest interest rate
• High-yield savings: Online banks often offer significantly higher rates because they have lower overhead costs
• Money market accounts: Slightly higher rates, may require a higher minimum balance

5f: U.S. Savings Bond

A U.S. savings bond is a loan you make to the federal government. You buy the bond, and the government promises to pay you back with interest after a certain period.

Two main types:

• Series EE bonds: Guaranteed to double in value over 20 years. They earn a fixed interest rate.
• Series I bonds: Earn a combination of a fixed rate plus an inflation rate that adjusts every six months. These protect your money from losing purchasing power due to inflation.

How to buy them: U.S. savings bonds are purchased online through TreasuryDirect.gov. You can buy them for as little as $25.

Putting It All Together

Here is how these investments compare: