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5 Basic Types of Investments

There are three main types of investments: stocks, bonds, and cash equivalents. Stocks and bonds are best for long-term growth.

As an investor, you have a lot of options for where to put your money. It’s important to weigh them carefully.

Investments are generally bucketed into three major categories: stocks, bonds, and cash equivalents. There are many ways to invest within each bucket.

Here are the six best types of investments you might consider for long-term growth, and what you should know about each.  Note: We won’t get into cash equivalents — things like money markets, certificates of deposit, or savings accounts — as they’re less about growing your money and more about keeping it safe.

1. Stocks

A stock is an investment in a specific company. When you purchase a stock, you’re buying a share — a small piece — of that company’s earnings and assets. Companies sell shares of stock in their businesses to raise cash; investors can then buy and sell those shares among themselves. Stocks sometimes earn high returns, but also come with more risk than other investments. Companies can lose value or go out of business. Read our full explainer on stocks.

How investors make money: Stock investors make money when the value of the stock they own goes up and they’re able to sell that stock for a profit. Some stocks also pay dividends, which are regular distributions of a company’s earnings to investors.

2. Bonds

bond is a loan you make to a company or government. When you purchase a bond, you’re allowing the bond issuer to borrow your money and pay you back with interest.

Bonds are generally considered safer than stocks, but they also offer lower returns. The primary risk, as with any loan, is that the issuer could default. U.S. government bonds are backed by the “full faith and credit” of the United States, which effectively eliminates that risk.

State and city government bonds are generally considered the next-safest option, followed by corporate bonds. The safer the bond, the lower the interest rate. For more details, read our introduction to bonds

3. Mutual Funds

If the idea of picking and choosing individual bonds and stocks isn’t your bag, you’re not alone. In fact, there’s an investment designed just for people like you: the mutual fund.

Mutual funds allow investors to purchase a large number of investments in a single transaction. These funds pool money from many investors, then employ a professional manager to invest that money in stocks, bonds or other assets.

Mutual funds follow a set strategy — a fund might invest in a specific type of stocks or bonds, like international stocks or government bonds. Some funds invest in both stocks and bonds. How risky the mutual fund is will depend on the investments within the fund. Read more about how mutual funds work

4. Index Funds

An index fund is a type of mutual fund that passively tracks an index, rather than paying a manager to pick and choose investments. For example, an S&P 500 index fund will aim to mirror the performance of the S&P 500 by holding the stock of the companies within that index.

The benefit of index funds is that they tend to cost less because they don’t have that active manager on the payroll. The risk associated with an index fund will depend on the investments within the fund.

5. Exchange-Traded Funds

ETFs are a type of index fund: They track a benchmark index and aim to mirror that index’s performance. Like index funds, they tend to be cheaper than mutual funds because they are not actively managed.

The major difference between index funds and ETFs is how ETFs are purchased: They trade on an exchange like a stock, which means you can buy and sell ETFs throughout the day and an ETF’s price will fluctuate throughout the day.

Mutual funds and index funds, on the other hand, are priced once at the end of each trading day — that price will be the same no matter what time you buy or sell. Bottom line: This difference doesn’t matter to many investors, but if you want more control over the price of the fund, you might prefer an ETF. Here’s more about ETFs.