What to know before you start investing

So, you’ve decided to start investing but don’t know where to begin? You’re not alone. Investing can be a great way to build your wealth and save up for things that matter to you. It can also be daunting, especially for beginners. From complex acronyms to dense rhetoric, there’s a lot to learn — it’s no wonder many people are too intimidated to get started.

The truth is that investing choices are as unique as investors themselves. Once you get a handle on the basics, you can decide whether investing is right for you and what kinds of investments you may want to make. 

At N26, we’re here to make finances empowering instead of stressful. In this article, we’ll go over the basic types of investments, approaches to investing, and the three major factors to consider once you’re ready to make an investment plan. Let’s get started.

Investing is a complex endeavor, so it’s worth getting acquainted with the different products on the market and the different styles of investing. 

In principle, you can invest in many different types of assets, but the following are the most common.

Stocks. With stocks, you purchase portions of an ownership stake (or “share”) of a business. If the company does well, your stock’s value will go up, and you’ll make a profit if you sell your shares. Conversely, if it doesn’t do well, your share prices will go down, and you could lose your money entirely. This makes stocks one of the more volatile investing options.  

Bonds. This type of investment is a kind of loan made to a government or corporate entity in return for a fixed profit. Bonds are generally considered to be less risky than stocks.

Index funds. An index fund is a portfolio of other assets, like stocks and bonds. As the name suggests, it tracks the performance of a specific index (a basket of securities). Index funds trade once per day, and their share price rises or falls based on the index they’re tracking. 

ETFs. Technically a type of index fund, ETFs trade on the stock market — meaning their prices fluctuate throughout the day. ETFs can include any combination of assets, from stocks to bonds to commodities. Both index funds and ETFs are passively managed, meaning they follow the ups and downs of the holdings they’re tracking. This makes the fees lower than with actively managed funds. 

Actively managed mutual funds. These are another investment type that represents a collection of securities. However, unlike index funds and ETFs, a mutual fund is actively managed by a broker who makes daily trades based on their personal evaluation of the market conditions. This type of investment typically incurs higher fees than a passively managed fund, as the broker takes a higher percentage of the earnings from your account to compensate for the extra work they do. 

Broadly speaking, there are two main styles of investing: active and passive. These different approaches aren’t determined by what your holdings are, but how regularly you’re buying and selling. 

Active investing is a proactive approach, trying to sell when the market is on the upswing — often over the very short term. Day trading is one example of this. Or, you might have a portfolio manager doing active investing on your behalf. If you buy a stock for €50 and are able to sell it for €75 within several days, this would be active investing.

Passive investing means buying assets and holding onto them over the long term — which means resisting the urge to sell when the market swings up or down. This strategy often proves to be more cost-effective, as you’re not paying fees or taxes every time you buy and sell.

Now that we’ve covered the major types of investments and approaches to investing, it’s easier to evaluate if, and how, investing could fit into your personal financial planning.

Before you actually get started, one of the most important things is to map out your goals and objectives. Perhaps you’ve already got a clear purpose for your foray into investing, or maybe you simply want to grow your money. Here are some typical financial goals of many investors:

• Retirement. It’s important to make plans for how you’ll support yourself in your golden years, and investing can be part of that. The amount to invest for retirement will depend on many factors, including your age, lifestyle, and what other retirement resources (i.e. social security or other public pensions) you can count on.
• A big purchase. This could be any short- or long-term goal you have, such as buying a car, making a down payment on a home, or paying for a wedding.
• Growing your wealth. Many of us simply want to grow our money instead of having it sitting in a checking account. Investing could be a valuable tool to do this. 
• Saving for kids and grandkids. Investing money could be a powerful way to help secure the future of your younger family members.
• Generating income. You could try to generate income from your investments, particularly if they pay dividends. However, this can be risky and may require significant funds to get started. 

Regardless of why you’re choosing to invest, having well-defined, realistic objectives will give you something to strive for and a benchmark for measuring your progress. 

Once you’ve identified your goals, it’s time to develop a plan for how to reach them. Here, there are three key factors you need to consider: Your budget, your time horizon, and your risk tolerance. 

One of the most important things to consider is how much money you can actually afford to put into investments. If you already have a lump sum that you want to invest, great. Alternatively, some people choose to make a regular investment — for example, a percentage of their monthly income — in the hopes of growing their portfolio over time. 

Experts usually advocate for setting aside 20% of your budget for savings — but also suggest that the more you can manage, the better. Also, if you start investing later in life or hope to retire early, you may want to consider contributing more. 

Don’t invest all of your money, though. We can’t stress enough: returns on investments aren’t guaranteed. Although you could make significant gains, you could also lose some — or, in the worst case, all — of your funds. That’s why it’s wise to never invest more than you’re prepared to lose, particularly money you may need in a pinch. 

Before you get started investing, do a financial health check and make sure you have your financial bases covered: 

1. Create a budget to understand what you can afford to invest and to keep you from spending beyond your means. Hint: We’ve got some handy tools for that right in your N26 app!
2. Have an emergency fund (three to six months’ worth of living expenses) ready in case life throws you some unexpected twists and turns.
3. Tackle any high-interest debt. Interest can inflate your debt, which ends up costing you a lot more in the long run.
4. Keep some money saved away in a high-yield savings or term deposit account if you want to grow your money in a more secure way. 

Time is an important factor with investing. Your time horizon is how much time you have ahead of you before you reach your investment goal. This will depend on various factors, including the market conditions, any assets you own, and your risk tolerance. 

Unlike products such as an instant savings account, investment returns are anything but guaranteed. But because markets have historically swung upward over the long-term, many advisors suggest that a longer time horizon could allow you to weather the market’s volatile moments. 

However, if you have a shorter time horizon to reach your goals — for example, if you’re nearing retirement — many believe it’s better to choose investments with less risk. The combination of high-risk investments and intense time pressure could leave you in a tricky position if there’s a sudden market downturn.

One more thing to note: If you want to work towards multiple goals at the same time, it may be wise to divide your objectives into short and long-term goals, each with their own time horizon. Things like retirement or wealth-building likely have a longer time horizon than financing a wedding.

We can’t drive this point home enough: No investment is completely safe. Investors have to be comfortable with a certain amount of volatility, and how much risk each individual is comfortable with or able to take on depends on a lot of factors — including their age, income, life circumstances, and even their personality. 

When we’re talking about risk, there are two different terms to keep in mind: risk tolerance and risk capacity. Risk capacity is the amount of risk you can afford to take on, or that your current circumstances allow. This will likely fluctuate throughout your life as things like income, family situations, and your age evolve. Risk tolerance is simply how much risk you are personally willing to take on. It’s more of a personality trait than anything else. 

Again, certain investments are riskier than others. A person with a high risk capacity or tolerance may own a significant number of stocks, for example, and very few bonds. This kind of portfolio may see higher returns over the long term, but could suffer significant losses over the short term. It’s better suited to someone who has plenty of time to wait out any unpleasant downturns or losses. 

Conversely, a portfolio with 50% bonds and 50% stocks may experience more stable returns — though they may not be as high. A more risk-averse portfolio can be wise if you know you’ll need cash in the short term. 

As you grow older and closer to retirement, you may want to increase the number of bonds and other less volatile investments. This could help you avoid losses if there’s a market downturn when you’re entering retirement. 

Before you can actually start investing, you’ll need a brokerage account where you can purchase stocks, bonds, ETFs, and more. Sometimes you can open a brokerage account right through your bank and manage your investments in one place. Alternatively, you can search for a fund manager who will manage your portfolio for you for a fee. 

When you’re selecting a brokerage service, take a close look at their fee structure — both the purchase and sale fees as well as any other fees they charge on top. These may seem small, but they can add up if you plan to be trading frequently. Note that brokerage accounts are taxable accounts, so you’ll need to pay taxes on your investment income. 

When you invest in a company — either by buying individual stocks or through a diversified ETF, index, or mutual fund — your money is helping that company thrive. Some investors have opted to only invest in companies where they are aligned with the mission — a concept known as ethical investing.

If you want to know what’s in an individual fund, you can look at its asset allocation and decide if you feel comfortable investing in the companies. 

Some ETFs or index funds make this easier. If you’re interested in social causes, for example, you can look for SRI (social responsibility investing) funds. These avoid controversial industries like firearms, tobacco, and oil. ESG funds prioritize investments in sustainable companies and don’t include any stocks from oil, gas, or other environmentally unfriendly corporations.  

No matter where you are with your finances, you deserve a bank account that puts you in the driver’s seat. With N26, you can manage your money right from your smartphone, and receive intuitive insights to help you budget, plan, and save. Plus, our premium Smart, You, and Metal accounts are packed with smart features to help you make your money work for you. Save for up to 10 goals with Spaces sub-accounts, or allow your savings to grow with Instant Savings. And with 2-factor authentication and instant push notifications for each transaction, you’ll know your money is in secure hands. Explore all our accounts today and find the one that suits you best.