People invest capital (money), in order to make a return on their investment (more money).

Risky investments generally pay more than safe ones (except when they fail). Investors naturally demand a higher rate of return for taking greater risks.

Now that you understand a little about risk/return, let's jump into the various investment types. The list of possible places to put your many is intimidating and plagued with acronyms. This following section will explain stocks, bonds, mutual funds, ETFs, and REITs.

Stocks

When most people think of investing, they think of Stocks.

A stock is an ownership interest in a company. When you buy a stock, you become a business owner. Over the long term, the value of that ownership stake will rise and fall according to the success of the underlying business.

If a business does well, so will the market value of the stock you own, thus increasing your net worth. The opposite is also true.

People invest in stocks, because over the long term, stocks provide the highest potential returns when compared to other investment opportunities (bonds, GICs, etc).

Notice the emphasis on long term. Over the short term, stocks are VERY volatile (their market price goes up and down, and up and down). This means that the value of stocks can drop in the short term. Even CNN Money states that "Over the short term, stocks can be hazardous to your financial health."

In fact, there are no guarantees that stocks will make you any money. If you perpetually purchase bad stocks, or purchase them at the wrong time, then you could actually decrease the value of your investments.

The good news is, that by educating yourself, taking the long-term approach, researching what you purchase, and diversifying, you can eliminate a large portion of the risk involved with investing in the stock market.

Here is a quick video of famous billionaire and long-term investor Warren Buffet, talking about stocks:

Bonds

When you purchase a bond, you are lending your money to a institution, and that institution agrees to pay you interest.

As long as the company you purchased the bond from doesn't go bankrupt, you are repaid the principal as well.

Bonds fit into two categories:

1. Government Bonds
   Bonds issued by the government are typically low risk, and as such, offer returns slightly lower than Corporate Bonds. Government Bonds are usually called Treasury Bills.

   Only a monumental downturn in the economy or, possibly, a very rare circumstance during a time of war would prevent [the Canadian or US] government from repaying its short- or long-term debts. However, even such events are unlikely to result in the [the Canadian or US] government defaulting, since [both have] the ability to print additional money (monetary policyMonetary policy refers to the regulation of the money supply and interest rates by a central bank, such as the Federal Reserve Board ("The Fed") in the U.S., in order to control inlation and stabilize currency. When monetary policy is accommodative, it is designed to stimulate economic growth by lowering short-term interest rates, making money less expensive to borrow. In contrast, tight monetary policy is designed to curb inflation by reducing the reserves of commercial banks (and consequently the money supply, through open market operations).) or increase taxes (fiscal policyFiscal policy represents decisions by the President and Congress, usually relating to taxation and government spending, with the goals of full employment, price stability, and economic growth.) if additional capital is needed.
   Source: Are long-term U.S. government bonds risk-free?

2. Corporate Bonds
   Corporations need to give you a higher return than government bonds offer you, otherwise you would buy the low-risk government bond. Therefore, corporate bonds offer you a slightly higher return, but with additional risk.
   
   
   Corporations each are assigned a credit rating (just like you and me). When their credit rating is bad, they must offer a higher return since they are a risky investment. Blue chip stocks, typically can offer lower returns, because they are a less risky investment.

   What is a 'blue chip' stock?

   A "blue chip" is the nickname for a stock that is thought to be safe, in excellent financial shape and firmly entrenched as a leader in its field. Blue chips generally pay dividends and are favorably regarded by investors. A few examples of blue chips are Wal-Mart, Coca-Cola, Gillette, Berkshire Hathaway and Exxon-Mobile.

Mutual Funds

Mutual funds are a professionally-managed form of collective investments that pools money from many investors and invests it in stocks, bonds, short-term money market instruments, and/or other securities.

In most mutual funds, the fund manager, who is also known as the portfolio manager, trades the fund's underlying securities, realizing capital gains or losses, and collects the dividend or interest income. These Mutual Funds are called "Actively Managed"

The investment proceeds are then passed along to the individual investors. The value of a share of the mutual fund, known as the net asset value per share (NAV), is calculated daily based on the total value of the fund divided by the number of shares currently issued and outstanding.

Fund managers take a cut of your earnings for managing your money. This is called a management expense ratio (MER), and the fees can really add up and ultimately hurt your returns over the long term. The average Canadian Mutual Fund MER is 2.5%. That means, if your mutual fund achieved a 10% return, it really only earned you 7.5%. Then you still need to pay tax on any gains.

Be aware that the vast majority of actively managed mutual funds under perform the average return of the stock market.

SlowFortune is a big fan of Index Funds. Index funds, are not actively managed, but rather seek to match "the market" by buying representative amounts of each stock in an index (e.g. the S&P500), rather than paying a manager to make bets on individual stocks, sectors, or investment strategies. Index funds do not even attempt to beat the equities market, they simply seek to come as close as possible to equaling it. The key to the unquestioned superiority of index funds is their extremely low expenses - they charge very low fees for providing the market's returns.

For more information on the advantages and disadvantages of Mutual Funds, read up more at the Motley Fool.

Exchange Traded Funds (ETF)

Exchange traded funds are simply mutual funds that trade like stocks, on major exchanges like the New York Stock Exchange (NYSE).

They have some advantages and disadvantages over Mutual funds.

Advantages:

- Since the market determines a ETFs price, rather than the underlying assets it holds, you are able to purchase an ETF at a 'discount'. The means you are able to purchase ETFs for less than they are actually worth on the books.

- There are tax advantages to ETFs: You control when capital gains are realized, rather than the fund determining when Capital Gains Distributions occur.

- Management fees on MERs tend to be lower than that of Mutual funds.

- For our Canadian friends, you can actually purchase ETF versions of popular US mutual funds (eg. Vanguard funds).

- Since ETFs trade like stocks, you can short them and trade them on margin. (Although, I wouldn't recommend doing either unless you REALLY know what you are doing)

- ETFs can be bought and sold throughout the trading day allowing for intraday trading.

Disadvantages:

- Since ETFs are traded like stocks, you must factor in the cost of both buying and selling the stock. As a simple example -- if you purchase $100 of a ETF at $10 per share, and the trading commision is $10, then you are already down -10%. Here is my thumbrule: Never execute an ETF purchase if the buying trading commision is more than 0.3% of the value of the trade. For instance, at a broker that costs $10 a trade, you must invest at least $3000. Keep your commisions low! They are the second most important thing with ETFs, after the management fees / expense ratio.

- Unlike mutual funds, ETFs don't necessarily trade at the net asset values of their underlying holdings, meaning an ETF could potentially trade above or below the value of the underlying portfolios.

Guaranteed Investment Certificate (GIC)

When you purchase a Guaranteed Investment Certificate (GIC) from a bank, trust company, or credit union, you are essentially lending them your money for a certain duration. At the end of that term, you are guaranteed to receive your full principal - your initial GIC investment - plus interest income on your money.

Typically, GIC do not offer exceptional returns because of the low risk involved. However, the GIC term can be short, which means it is a great place to park cash for short periods of time (if your investment horizon is shorter in nature).

Real estate investment trust (REIT)

REITs were designed to provide a similar structure for investment in real estate that mutual funds provide for investment in stocks.

Basically, it is a security that sells like a stock on the major exchanges and invests in real estate directly, either through properties (or mortgages).

REITs invest in shopping malls, office buildings, apartments, warehouses and hotels. Some REITs focus their investments within a certain market, like shopping malls, or an area of the country. Investing in REITs is a liquid, dividend-paying means of participating in the real estate market.

As such, if you cannot yet afford to purchase real estate, REITs afford you the opportunity to get real estate into your asset allocation mix.

How to choose

So, you have now been introduced to Stocks, Bonds, and various other financial products out there that can help you grow your wealth.

The next problem, is how to decide what to invest in? What if you pick a loser stock? Can I trust the corporation in which I would like to purchase a bond? What mutual fund is going to perform the best?

SlowFortune is all about Lazy Investing, so that you can minimize the amount of time and effort you spend thinking about your investments, while minimize fees and still getting a great return. Visit our Lazy Investing page for more information.

Alternatively, you can take a more active approach to trading, but make sure you educate yourself throughouly and understand everything you invest in.

Learn more!!!

Want to learn more about investing in general? Visit the Education section of Slow Fortune.