The 4 Main Investment Vehicles and How to Use Them
We all know that financial markets have taken a serious hit as the effects of COVID-19 rip through the economy. As a result, investment values have also declined. While this may be alarming in the short-term for those of us with holdings (this too shall pass), it’s also an opportunity to purchase investments at lower valuations. For those fortunate enough to not have their income impacted by wage cuts or suspension of shifts or contracts (see our article about precarious employment from last week), this ‘bear market’ is a great opportunity to build an investment portfolio.
For the newbie (or even an amateur investor) here’s our guide to getting started:
What is an investment vehicle?
An investment vehicle is a product that individuals can use to invest and, ideally, grow their money. There is a wide variety of investment vehicles and each type has its own risks and rewards. Deciding which vehicles to use depends on a person’s knowledge of the market, risk tolerance and financial goals.
Here’s a run down of the four main types of investment vehicles out there.
Companies issue (sell) stock (also known as share or equity) in order to raise money to operate their businesses. When you buy a company’s stock you are buying an ownership stake in that company and are entitled to share in its profits. While stock prices fluctuate day to day and can drop below the price you bought in at, the goal is to buy stocks that will increase in value over time (think years, not months). For example, Dollarama (TSX: DOL) was one of the best performing stocks of the past decade – if you bought stock in 2009 you’d have increased your investment by 1,030%. Some companies share profits directly with shareholders through a dividend (a cash payment), but most companies focus on reinvesting profits back into growing the company, which hopefully raises the value of the stock for investors.
Exchange Traded Funds (ETFs) are baskets of securities (typically stocks, bonds and commodities) that you can purchase and in turn get a piece of ownership in each component of the basket you are buying into. For example, one of the top performing ETFs on the TSX last year was the iShares S&P/TSX (TSE:XIU). When you buy this EFT, you’re buying a slice of top companies on the TSX including RBC, Enbridge, Shopify, and 57 others. This gives investors exposure to a broader range of sectors – and as is commonly advised, the key to investing is to diversify, diversify, diversify. ETFs trade like a stock in real time throughout the trading day and some ETFs are considered low-risk investments because of their diversification. On the flip side, they tend to have a lower return on investment compared to stocks because they track a broader pool of investments and commodities.
A mutual fund pools money from different investors and invests it in a large group of assets. Mutual funds are similar to ETFs in that you are gaining exposure to all of the different securities that fall within that fund. However, when you buy a mutual fund, you are buying shares in the fund, whose business is buying shares in the companies included in said fund. So, while you don’t directly own stock in the companies the fund purchases like you would with an ETF, you share equally in the profits or losses of the fund’s total holdings — hence the “mutual” in “mutual funds.” This can be an attractive option because mutual funds are professionally managed, so once you find one with a good track record there’s not much you have to do – however, because it’s professionally managed there are higher fees associated with this type of investment vehicle.
A bond is essentially a loan agreement between a company or government (bond issuer) and an investor, where you are loaning money to the bond issuer. The money you earn on this investment comes in the form of regular interest payments from the bond issuer until the bond matures i.e when your principle investment must be paid back to you. For example, the Bank of Canada issues bonds that include the terms of the loan, interest payments that will be made, and the maturity date. Bonds typically offer a lower return compared to stocks and ETFs (but not always), but are low risk investments as you’ll always get paid unless the underlying entity behind the bond defaults on its debt.
So Remember, Btches
Investing isn’t just for the 1%. The rise of online banking and proliferation of free online resources and information has led to the democratization of personal investing – so go get it! Do your research, find the investment vehicle(s) that make sense for you, and put your savings (no matter how big or small) to work.