A “first time” event sticks with us for a long while, presumably for the rest of our life. When I recall various “first times” I’ve had, a few things immediately come to mind:
- My first kiss (6th grade, back of the school bus. Name of girl withheld to protect her reputation).
- The first time I saw Springsteen in concert (Nassau Coliseum, The River Tour).
- The first time I got into a car accident (smashed my dad’s car in front of Carvel).
- The first time I got into a fistfight (against my older sister back in first grade; I lost real bad).
- The first time I got a base hit in Little League (a lucky shot over the second baseman’s head).
And, of course, the first time no one will ever forget, the one that typically tops everyone’s list: the first time someone told me I should invest in something called an individual retirement account (IRA).
Ah, yes. The first time someone told us we should invest in an IRA. Who can ever forget that magical moment?
A long time ago it may have been, but I inexplicably still remember it well. Tired from staying up late at a Saturday night high school gathering, I do have a minor recollection of the event. A nice, crisp Sunday morning I’m sure it was, and while everyone else was most likely out enjoying the perfect day, I was busy relaxing on the family couch watching a good Clint Eastwood movie or something of the sort.
And while relaxing on a Sunday morning, what would be the best thing that could have topped off the moment? Any ideas? Of course … you guessed it—having your mother come into the room to discuss what an IRA is and why you want to invest in it. Yes, at that moment, my financial planner mom truly delivered the goods. And all I can recall from the conversation is pain, confusion, frustration, and the feeling of “I have no idea what you are talking about. Can we get this over with as fast as possible?”
Back then, I really had no idea what an IRA was or why I should pay the slightest attention to it. In fact, some people don’t know a few important financial terms. To save you from your Mother interrupting you during the next Clint Eastwood movie, I figured I’d give you a few here you should know a little about:
1. Time value of money
The time value of money is the concept that money on hand today is worth more than the same amount of money in the future because the money today can be invested to earn interest. Why is it important? Understanding that money today is worth more than the same amount in the future can help you evaluate and compare investments that offer returns at different times.
2. Market volatility
Market volatility measures the rate at which the price of a security moves up and down. If the price of a security historically changes rapidly over a short period of time, its volatility is high. Conversely, if the price of a security rarely changes, its volatility is low. Why is it important? Understanding volatility can help you evaluate whether a particular investment is suited to your investing style and risk tolerance.
3. Inflation
Inflation reflects any overall upward movement in the price of goods and services in the economy. Why is it important? Because inflation generally pushes the cost of goods and services higher, any estimate of how much you’ll need in the future–for example, how much you’ll need to save for retirement– should take into account the potential impact of inflation.
4. Asset allocation
This strategy means spreading investments over a variety of asset categories, such as equities, cash, bonds, etc. Why is it important? How you allocate your assets depends on a number of factors, including your risk tolerance and your desired return. Diversifying your investments over asset classes can potentially help you manage risk and volatility.
5. Net worth
Net worth is what your total holdings are worth after subtracting all of your financial obligations. Why is it important? Your net worth will probably fund most of your retirement years. Therefore, the faster and bigger your net worth grows, the earlier and more comfortably you will be able to retire. Once retired, preserving your net worth to last through your retirement years is your goal.
6. Five C’s of credit
These are character, capacity, capital, collateral, and conditions. They’re the primary elements lenders evaluate to determine whether to make you a loan. Why is it important? With a better understanding of how your banker is going to view and assess your creditworthiness, you will be better prepared to deliver appropriate information to obtain the loan you want or get a better interest rate.
7. Sustainable withdrawal rate
Sustainable withdrawal rate is the maximum percentage that you can withdraw from an investment portfolio each year to provide income that will last, with reasonable certainty, as long as you need it. Why is it important? Your retirement lifestyle will depend not only on your assets and investment choices, but also on how quickly you draw down your retirement portfolio.
8. Tax deferral
Tax deferral refers to the opportunity to pay income taxes in the future for investment interest and appreciation earned in the current year. Why is it important? Tax-deferred vehicles like IRAs and annuities produce earnings that are not taxed until withdrawn. This allows those earnings to compound, further adding to potential investment growth.
9. Risk/return trade-off
This concept holds that, in order to achieve a higher personal investment return, you must be willing to accept greater risk. Why is it important? When considering your investments, the goal is investing to get the greatest return for the level of risk you’re willing to take, or to minimize the risk involved in trying for a given return.
10. Annuity
An annuity is a contract where you pay money to an insurance company in return for the insurer’s promise to pay it back, with interest, in the future. Why is it important? You can supplement other retirement savings with taxdeferred annuity funds, and you can add to your retirement income with payments from your annuity for a fixed period of time or for the rest of your life.
CONCLUSION
So, now that you know a couple of important financial terms and you can politely ask your Mom to leave you alone while you watch a flick, what Clint Eastwood movie will it be? The Good, The Bad, The Ugly? Pale Rider? Or my all-time favorite, Unforgiven?
Grab a bag of popcorn. If you made it through this post, you deserve it.
