Why is Investing Important?

Why is investing important?

Investing is important for many reasons, the majority revolving around financial security. One of the key reasons investing is important is the fact that it helps preserve your money, while growing it at the same time. If you select strong, low risk investments after conducting thorough research and analysis, the chance you lose your money is infinitesimally small. Investing in index funds and general market ETFs further decreases any chance of you losing your money.

Investing also grows your money. If you invested $1,000 in the S&P 500, a stock index, on December 18, 2015, you would have $1,818 today (12/14/2020). That's over $800 you made without having to do any work. Similarly, if you purchased $1,000 worth of gold on December 15, 2015, you would have $1,725 today. Regardless of the fact that the last 5 years have been particularly good, the S&P 500 has averaged 9.2% a year since its inception, and gold has returned 8.8% annually over the last 20 years.

By investing your money in safe and well-researched assets, your money grows without you having to lift a finger.

Investing also protects against inflation. Inflation is a decrease in purchasing power over time, meaning that as time passes, $1 is able to buy less and less. Inflation is why 25 cents would have bought a burger, fries, and drink in 1960, but will get you a gumball today. Inflation can be a little confusing to understand, so here's an example to visualize it.

In 1990, Bob won $12,000 from a lottery. He didn’t know about investing, and decided to keep that $12,000 in a shoebox under his bed. In 1990, Bob could have bought a brand new Toyota Camry for $12,000. Let’s 30 years later, in 2020, Bob needs to buy a new car. He remembers the $12,000 lying under his bed, grabs the money, and goes to the Toyota dealership. Bob tells the dealer that he's ready to buy a brand new, 2020 Camry, and gives $12,000 to the dealer. The dealer laughs, and tells him that a 2020 Camry starts at $24,000. Bob is shocked! Why does the same car cost two times what it did 30 years ago?

This price change is due to inflation. As time passed, the value of Bob’s money decreased due to inflation, at a rate of 3.22% a year. Over 30 years, the rate of inflation totaled nearly 100%, meaning that if something cost $1 in 1990, it costs $2 now. Because his cash was uninvested, it didn’t provide any returns, and the buying power of his $12,000 halved over 30 years.

Now, lets see what would have happened if he invested that $12,000 in 1990. The S&P 500 returned 987% from 1990-2000, meaning that if Bob invested his $12,000 into the S&P 500 in 1990, he would have around $118,440 today. If Bob had invested his lottery winnings, instead of looking at a Camry, he would have been able to buy a brand new, 2020 Porsche 911 Carrera S, and still have $3,000 left over to spend.

After that example, it seems like investing can’t get any better. It does. By investing in certain stocks and ETFs, you are able to get money directly in your account without selling your investments. Normally, to make profit on an investment, you have to sell it to the buyer, who pays you, leaving you with cash. A dividend is pretty much a small piece of profit the company gives to its shareholders. Companies pay dividends to encourage people to invest, and to thank those who have for trusting the company. Most major companies give dividends, meaning your investments will provide you with income every year, even if they don't increase in value. Let's say you have $1000 invested in a company that gives a 3% dividend, like Coca-Cola. Every year, even if Coca-Cola stock has not gone up, you will receive $40, in cash, straight into your account. While this may not seem like a lot, it will provide you with some free cash in hard times, and allow for compounding, a topic I will discuss later.

Lastly, investing allows you to keep your money safe. If you invest in bonds or stocks, most of the time, you don’t have anything physical to keep. Most investments are now online. This is much different from cash/bills. If flooding or a fire occurs in your area, and your house is damaged, your cash will also be damaged. Additionally, a robber can steal thousands of dollars in cash, but it’s much harder to steal thousands of dollars of stocks.

All in all, investing is an essential tool to make sure your money stays safe, and grows over time. Investing prevents the effects of inflation, provides you with cash every year, and keeps your money secure.