How to Invest Money For Beginners

Beginners Should Stick to the Three Main Productive Asset Classes

How to Invest Money
As a new investor, you may wonder how to invest money from your savings to begin earning a good return. As a general rule, beginners shouldn't straight from the three major productive asset classes: Stocks, Bonds, and Real Estate. Danita Delimont / Gallo Images / Getty Images

Judging by the mail I receive and site activity, the phrase "How to invest money", while open-ended almost to the point of being intimidating, is clearly on a lot of your minds.  While it is a staggeringly large topic, I thought it might be helpful to start from the very basics to point you in the right direction so you have an idea of where to begin based upon your own personal situation and resources.

 While building a complete portfolio might seem an impossible task, rest assured the dividends, interest, and rents are worth it.

In most cases, the best place to launch your journey to financial independence through investing is to decide which asset classes you want to own; the basic foundation of a portfolio management concept known as asset allocation.  This is necessary because of real estate, stocks, fixed income ... each has its own unique risks, opportunities, pricing structure, market customs, valuation models, legal structures, jargon, and tax rules.  Some are more vulnerable to wealth destroying forces such as inflation while others have bigger barriers-to-entry that mean you'll have to save money for a lot longer before you can jump in with both feet.  What makes it even more interesting is that not only will you tend to gravitate toward specific asset classes based on your own personality, you'll find that different asset classes meet different needs at different times in your life.

 An example: If you're retired in your seventies, it doesn't make a lot of sense to hold huge stock positions unless you plan on passing a decent-sized estate to your heirs or charity.  Instead, you'd likely be better off enjoying the relative safety and stability of interest income from high-quality bonds.

 That way, if the country were to descend into a Great Depression, your odds of maintaining your standard of living would be much improved.

For now, let's look at the big three: Business Ownership, Lending Money, and Real Estate.  Almost all major assets you are likely considering when you ask how to invest money fall under one of these categories.

1. How to Invest Money By Acquiring an Ownership Stake in a Business

When you invest money in a business, you are creating or buying into a productive system that, you hope, generates net profit by selling a product or service for more than it costs to deliver to the customer.  Historically, ownership of a successful business has been the greatest source of wealth accumulation for self-made men and women, surpassing the next highest asset class, real estate.

There are several ways to invest your money into business ownership.  You can:

  • Start your own company, often by establishing a sole proprietorship, general partnership, limited partnershiplimited liability company, or corporation.  If you have the talent, skill, discipline, and, to some degree, luck of an excellent operator, it is often the most lucrative path to investment riches because you can buy into the firm at book value with your compounding rate equal to the return on equity, or ROE.
  • Buy into someone else's privately held company or partnership, often in exchange for cash or labor, on terms privately negotiated.  Some investors specialize in so-called private equity, restricting themselves to specific sectors of the economy where they feel like they have an advantage, such as technology or manufacturing.
  • Buy a stake in a publicly traded business, most often by purchasing common stock in a corporation traded on the over-the-counter market or on one of the stock exchanges such as the NYSE, Nasdaq, Toronto Stock Exchange, London Stock Exchange, Tokyo Stock Exchange, etc.

Most people are going to fall into the last category because they have a day job and are interested in learning how to invest money they have built up in their brokerage accounts401(k) plansRoth IRAs or Traditional IRAsdirect stock purchase plans, and mutual fund accounts.

 In almost all of those cases, the actual way you can invest money - that is, taking cash balances you have amassed and turning it into business ownership - is covered in-depth in an article I wrote called How to Buy Stock for Your Investment Portfolio Start there if you want to learn more and come back once you've finished reading it.  

2. How to Invest Money by Lending Your Savings

Money lending in all of its derivations and forms is as old as civilization itself.  An investor saves up his or her wealth and then lets others borrow it for their own purposes upon the promise of repayment plus interest based on the perceived risk, projected inflation rate, and length of the loan.  There are a myriad of ways you can invest your money in this asset class including:

  • Making a direct, private, negotiated loan with a borrower based upon a written or verbal contract detailing terms, conditions, a repayment schedule, and interest rate
  • Making peer-to-peer loans through market platforms such as Lending Club or Prosper where you bid on a small percentage of a given loan and fund a piece of it
  • Purchasing bonds issued by sovereign governments (e.g., Treasury bonds or savings bonds), municipalitiescorporations, non-profits, or other entities
  • Acquiring an FDIC insured certificate of deposit at a bank or other financial institution

In a very real sense, just like investing money in a business, when you lend money, the compound annual growth rate you can earn depends on , in part, on your skill set.  I know an 80-year-old retiree who, in a world of near zero-percent interest rates, carefully, shrewdly, and wisely acquires homes in neighborhoods, then rents them out on lease-to-own terms for struggling families she wants to help but who otherwise couldn't qualify for a mortgage.  After adjusting for various factors, her equivalent cap rate is north of 13% per annum and the loans secured by sufficient equity that i a default occurs, she suffers no loss.  In a few cases, when a family has fallen six months or more behind on their loan payments due to a catastrophic life circumstance, she's opted to forgive the entire amount because she makes so much money from what is now her side hobby in the twilight years of her life.

Nobody advertises these investments.  She creates them out of thin air.  She sees an opportunity and using a pen, a lawyer, a notary, and her savings finds a way to solve other peoples' needs.  The last time I was visiting her, she took us to a restaurant where she was able to use vouchers to eat for free.  "My late boyfriend financed the business," she said.  "One of the terms he negotiated was half-a-dozen free meals per month that they continue to give me after he died."  The man she had been dating before he passed away in his 80's - himself a multi-millionaire despite no outward signs of it - came from the Great Depression era, too.  He used the loans he made to the business as a way to squeeze out 72 free meals a year.  You're never going to find that listed on a bond inventory sheet at your local stock brokerage firm.

3. How to Invest Money in Real Estate

Behind lending money, making a profit from owning real estate is among the oldest recorded financial activities in all of the recorded human civilization.  From ancient Egypt to modern-day New York City, if you own a property - be it a residence, an office, or a plot of land - you can let someone else use it in exchange for a payment known as rent.  Certain types of investors prefer real estate ownership over all other asset classes due to its enduring nature.  By way of illustration, the aristocracy in Great Britain is so concentrated in real estate that a mere 0.6% of the entire country owns 50% of all rural real estate in the nation.

In the modern economy, there are several ways to acquire real estate for your investment portfolio.  These include, but are not limited to:

More Thoughts on How to Invest Money

While there are many other types of things you can acquire if you want to invest your money and earn a good rate of return - in my own life, for example, I exploited something known synthetic equity to make a lot of my early money - it is probably inappropriate for new investors to consider anything but these three asset classes.  They are more than enough to retire rich, live comfortably, and leave your children and grandchildren trust funds stuffed with wealth that can sustain them for decades, if not for the remainder of their lives.  Don't try to over-complicate it by jumping into things you don't understand at first like master limited partnerships.  Follow the advice of one of the history's greatest investors; do not deviate from KISS, or "Keep It Simple, Stupid" and you're likely going to experience much better results, with far fewer sleepless nights, than you otherwise might have.