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Economics – Colvin The Five Stages of Investing Economics – home management
An Inquiry into the Nature and Causes of the Wealth of Nations (generally referred to by the short title The Wealth of Nations) is the masterpiece written by Scottish economist and moral philosopher Adam Smith and was first published in 1776. It is an account of economics at the dawn of the Industrial Revolution, as well as a rhetorical piece written for the generally educated individual of the 18th century - advocating a free market economy as more productive and more beneficial to society. The book is often considered to have laid the basic groundwork for modern economic theory and received widespread influence still maintained. One of the book's main themes is the concept of an invisible hand that naturally guides a society through self-interest.
In The Wealth of Nations, Smith writes:
"By preferring the support of domestic to that of foreign industry, he intends only his own security; and by directing that industry in such a manner as its produce may be of the greatest value, he intends only his own gain, and he is in this, as in many other cases, led by an invisible hand to promote an end which was no part of his intention."
This phrase, often quoted and alluded to, was written in the context of the rise and dominance of eighteenth century chartered corporations such as Muscovy Company and the English East India Company both controlled by the powers of the state. These early multinational government controlled corporations were chartered exclusively by seventeenth and eighteenth century monarchs in a manner similar to modern no-bid contracts. These monarchs would also enact laws favorable to the enterprise of these early corporations but less favorable to the local workforces that they employed. In the American colonies for instance, colonists were permitted to grow cotton but not to make clothing from it. It had to be shipped to England for manufacture, and then purchased back in its finished form. Smith felt that if these laws were removed that it would be advantageous to both the state and the individual, thus "promoting an end which was no part his own."
Where free markets are concerned, Smith felt that if capital was able to flow naturally on its own accord that it would, without the assistance of government, flow to the most productive hands; as the individual simply strives to better his own condition.
Description:
The practice of saving and investing is definitely a good thing, but there are many ways to save and invest. In thinking about the options, it is important to consider the degree of risk involved and the potential for return. Typically, the higher the risk, the higher the potential return. The key is to work up to the riskier investments, where you stand to earn the most money, but only after you have successfully established some safer holdings. This lesson walks students through the stages of investing, demonstrating why that sort of sequential order is important. At the end of the lesson, students are asked to serve as financial advisors and give advice to people considering investments at different stages of the investment ladder.
Vocabulary:
Portfolio
The total holdings of the securities, commercial paper, etc., of a financial institution or private investor.
Benefit
Monetary or non-monetary gain received because of an action taken or a decision made.
Cost/Benefit Analysis
A process of examining the advantages (benefits) and disadvantages (costs) of each available alternative in arriving at a decision.
Economic Security
Protection against economic risks, such as unemployment, accidents on the job, business failures or natural disasters, over which people have little or no control.
Investing
The process of putting money somewhere with the intention of making a financial gain. Investment possibilities include stocks, bonds, mutual funds, real estate, and other financial instruments or ventures.
Money
Anything that is generally accepted as final payment for goods and services; serves as a medium of exchange, a store of value, and a standard of value. Characteristics of money are portability, stability in value, uniformity, durability, and acceptance.
Money Management
A system for income and spending that allows for the achievement of financial and consumer goals.
Sometimes the order in which you do things is very important it can make or break the process. You wouldn't apply to be the head chef of a gourmet restaurant before you had learned to cook noodles, right? The same is true of saving and investing money: there are many good ideas out there, but if you try to use them in the wrong order, you might find yourself in over your head (or worse, out of money for groceries!). You will learn about the five stages of saving and investing, what happens at each stage, and why it is important for investors to make use of the stages in a specific order. Then you will use that information to provide advice to prospective investors at different points along the way in their financial journeys. Happy investing!
Activity 1: Introduce the five stages of saving and investing.
The Five Stages of Saving and Investing
- Step One: Put-and-Take Account
This is the first savings instrument you should establish when you begin making money. For most people, the put-and-take account is a checking account. A checking account holds the money that you are going to need immediately (or soon) plus a little extra for emergencies. You can take money out of this account by writing checks for car payments, clothes, etc. Experts recommend that you set aside three to six months' net pay in your checking account. Therefore, if you are making $50 a week working at the movie theater, your goal for the put-and-take account should be $600 to $1,200. This first stage is very low-risk; that is a good thing, because you do not want to gamble with the money you are counting on to pay the electric bill! - Step Two: Beginning to Invest
After you're established a stable put-and-take account (meaning that you're NOT running out of money in your checking account each pay period), you can move on to beginning investments. These first investments should be low-risk instruments that you are not very likely to lose money on bonds or mutual funds, for example, you probably will earn a relatively low rate of return on these investments, but giving up the potential of higher returns for more security is worth it at this stage. Most people begin this stage in their twenties or thirties, when their budgets and spending are stable and they begin to have excess cash. Getting an early start is important. If you start early, your money will have more time to earn more money for you! That is why it is important to get your put-and-take account established as soon as you can. If you are a 17 year-old and have your put-and-take account under control, you can get a head start on the next stages and a head start on other investors! - Step Three: Systematic Investing
When you have established your beginning investments, you can move on to investing on a REGULAR and PLANNED basis. For most people, this is a commitment to invest a set dollar amount every pay period, usually in stocks, mutual funds, or annuities. Goals for this stage are long-range; you are going to see the best return from this kind of investment if you continue with it for 20+ years. Typically, people enter this stage in their thirties and forties, when their earning potential is the highest. Here again, starting early is important. The 17 year-old who has a stable put-and-take account and begins investing early might be ready to jump into systematic investing at age 20. - Step Four: Strategic Investing
The fourth stage is for investors who have set up a stable put-and-take account, dabbled in safe beginning investments, and established a systematic investing plan. When you have extra money above and beyond your commitments, you can begin strategic investing, which is managing your portfolio (your collection of assets) with an eye on balancing out losses and gains in different investment instruments. The key here is diversification: making sure,you are not keeping all your eggs in one basket. Since stocks and bonds often respond in opposite ways market conditions, many people invest in both to balance out potential losses. Goals in this stage are medium-term: five to 10 years. - Step Five: Speculative Investing
The fifth and final step is speculative investing in penny stocks, junk bonds, or collectibles, for example. Speculative investing involves high levels of risk, but it also has the potential to yield high returns. (You have probably noticed the relationship between risk and potential return in the world of economics the greater the risk you take, the greater your potential return.) Some people never do engage in speculative investment, preferring to avoid the heightened level of risk that is involves.
As you start to earn money, it is important to remember that there is a smart way to invest that money and a smart sequential order to follow. Of course, you do not want to gamble with money you cannot stand to lose, and youdo not want to jump into very complicated investments when you do not have any experience as an investor. It is important to start investing in low-risk choices only to protect your money but also to help you learn about what investing is. The best way to make your money grow and thus earn enough money to do what you want is to follow the five stages of saving and investing.
You are now an expert financial adviser. The following people have e-mailed you asking for advice on their next step in investing. They are at different stages of saving and investing, and they do not know where to go from here. Using what you have just learned about the stages of saving and investing, give them sound financial advice.
- ______Putthe five stages of saving and investing in the correct order, starting with the first.
- beginning investing, put and take account, systematic investing, speculative investing, strategic investing
- put and take account, beginning investing, systematic investing, strategic investing, speculative investing
- systematic investing, strategic investing, put and take account, speculative investing, beginning investing
- ______Which stage should you begin first?
- systematic investing
- beginning investing
- speculative investing
- strategic investing
- put and take account
- ______Which stage is the last one you should enter?
- systematic investing
- beginning investing
- speculative investing
- strategic investing
- put and take account
- ______Which stage has a goal of maximizing profits in five to ten years?
- systematic investing
- beginning investing
- speculative investing
- strategic investing
- put and take account
- ______Which plan includes investing on a regular basis?
- systematic investing
- beginning investing
- speculative investing
- strategic investing
- put and take account
- ______Which stage can you enter after you have invested regularly and diversified your portfolio and have money left over to take bigger risks?
- systematic investing
- beginning investing
- speculative investing
- strategic investing
- put and take account
- ______Which stage generally involves a checking account?
- systematic investing
- beginning investing
- speculative investing
- strategic investing
- put and take account
- ______Which stage has long-range goals like retirement?
- systematic investing
- beginning investing
- speculative investing
- strategic investing
- put and take account
- ______Which stage focuses on the careful management of your investments to maximize your portfolio?
- systematic investing
- beginning investing
- speculative investing
- strategic investing
- put and take account
- ______In which stage do you stand to make or lose the biggest amount of money?
- systematic investing
- beginning investing
- speculative investing
- strategic investing
- put and take account
You are ready to help people with their finances. Help the five people below solve their financial problems.
1. Hello. My name is Erick! I am looking for some advice on what type of investments to look at. I am 53, my kids are through college and out on their own, and I have what I feel is a healthy, diversified portfolio of stocks, bonds, mutual funds, and real estate. I am earning more on dividends and interest payments than I need to support my family right now, so I would like to find something to do with this money to make it grow. What should I consider?
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2. Hi, I am Monique! I am a high school senior and I have been saving money from my landscaping job for a couple of years now in a savings account. I have enough in the account notto have to worry about running out of money at the end of the month, and my parents say that I have enough money to consider investing it in order to earn a greater return. (I am earning .8% interest on my checking account now THAT IS not going to make me a millionaire any time soon.) What should I do?
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3. My name is Felicia McMillian, and a friend referred me to you. I have a question about what I should do with my money. I have been working as a pharmaceutical sales representative for just two years now, but I have already started investing a little bit of my money. Right now, I have a checking account, a money market account, and I have started buying small bonds. I am beginning to earn a little more money, and I'm starting to think about future goals, like buying a house, helping my kids pay for college, retirement. . . all things that are more than 10 years down the road. What would you advise me to do at this point?
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4. Hi! This is James Cook. We spoke on the phone yesterday; you asked me to e-mail you some specifics on my present financial situation so you could give me appropriate advice on what investments I should consider. Right now, I am 34 years old and I own a local cooking specialty store. Through my credit union, I have a share account (this is the account I write checks out of to pay for day-to-day necessities). I have also dabbled in mutual funds and am currently investing 5% of my monthly income in Tyson stock. I am starting to have some leftover money from my paycheck and from Tyson dividends.What should I do with it? Thank you!
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5. Hello! I saw an advertisement for your financial advisement firm in the paper and I need some help getting my money in order. I am a 30 year-old nurse, and I have a checking account, but I usually end up running out of money at the end of the pay period. I am trying to invest in things that will make my money grow, but it seems like I have been picking the wrong ones. I find a stock that has gone up a lot recently, and I buy some, but then it usually goes down quickly and I sell it to get rid of it. What am I doing wrong? How can I really make my money grow?
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6. You are going to make a hypothetical time-line of your life from now until you are 80 years old. Mark milestones on the time-line like getting your first 'real' job, marriage, having kids, buying a house, kids going to college, retirement, etc. Of course you cannot know for sure, when you are going to buy your first house, switch jobs, etc., but it is still worthwhile to think about a time-line for your goals. When you are done, mark the stages of saving and investing at appropriate places on your time-line. When would you want to start investing systematically and or strategically? Not all investors get to stage five, and it is not necessarily a good thing to try to do so. Stage five investing makes sense only for people who are comfortable, financially and otherwise, with high levels of risk.
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