Investment

The Role of Investments for the Economy

Today's economy is impossible without the processes of investment; it is what sustains and drives growth. First and foremost, the word "investment" is associated with assets. The form of an asset can be anything—securities, real estate, currency, and others.

Any assets or funds can be used for consumption or saving. Saving leads to the disappearance of funds from circulation, which creates the conditions and prerequisites for future crises. At the same time, the process of saving can be triggered by another crisis. Additionally, funds held in savings may gradually depreciate due to inflation. Investment, on the other hand, involves putting assets (funds) back into circulation. The investment process can be realized indirectly (through purchasing securities, bank deposits, transferring assets to investment funds for management, etc.) or directly (by opening/expanding a business, upgrading equipment, or training personnel).

The practical benefits of investment come in two forms: benefits for the investor and benefits for the investment object. The goal of any investment is to generate profit or another positive outcome for the investor in the future, which is the practical benefit for the investor. As for the investment object, it can be the asset itself or the entity selling it. For example, in the case of an IPO (Initial Public Offering) on the primary stock market, the investment object could be both the stocks themselves and the company that issued them. In this case, the practical benefits for the company could include:

• Increase in working capital or modernization of fixed assets.
• Upgrading equipment.
• Training and improving employee qualifications.
• Development of new projects, products, or services.
• Allocation of funds for marketing and advertising.
• Attracting new specialists.

There are many other ways a company can use the funds raised from the sale of shares, but for clarity, it's useful to highlight the main ones.

But what benefits can the asset itself derive? The purchase of any asset influences its demand. Increased demand attracts new investors (since high and stable demand signals the asset's liquidity). This works like a snowball: as it grows, the price of the underlying asset rises, strengthening its market position and drawing attention to its primary source, even if the asset was acquired on the secondary market.

Types of Investments

Over time, the phenomenon of investment has proven its effectiveness, and the field has gone through a stage of formalization, gaining new opportunities for investment. Modern investors have access to a wide range of tools, and we will explore the main ones.

Stock Market

One of the key principles of the economy is that money is useful if it works. The stock market is designed to embody this idea and provide an opportunity for the masses to invest their money profitably. The market mechanism is simple: buying and selling assets to generate profit.

Stocks

A stock represents a share in a company/business. Imagine a pie or cake that is divided into many equal-sized pieces. The pie represents the company, and its pieces are the stocks/shares. For example, there is an abstract company A with 1 million shares issued. A random investor decides to buy 10,000 shares of company A, whether on the primary or secondary market doesn’t matter. After purchasing, their share will be 1% ((10,000 / 1,000,000) * 100).

If the company is successful and profitable, the company’s overall capitalization will grow, and the investor's share will grow along with it. It should be noted that a company's profitability doesn't always have a significant impact on its stock price; market conditions also play a role. In practice, this means the market may view a company as promising, and a long position (buying) trend will positively affect the price.

Since stocks are one of many economic instruments, they are also influenced by external events and carry risks. News, geopolitics, climate, etc., affect the stock market. Sometimes, seemingly unrelated news can stir the market in one direction or another. Additionally, stocks do not guarantee returns. However, such risks can be reduced or nearly eliminated by buying shares in blue-chip stocks—the largest, most reliable, and liquid companies. The potential returns from these may be lower, but the peace of mind is often worth it.

Bonds

When purchasing bonds, the investor acts as a creditor to the bond issuer. The issuer of the bonds commits to returning the principal and adding a fixed interest rate, with the repayment date agreed upon in advance.

Bond issuers can be:

1. Government bodies: Local or central governments.
2. Corporations.
3. Financial institutions: Banks, financial organizations.
4. International organizations: The International Monetary Fund, the World Bank, etc.

Compared to stocks, bonds are more predictable, as the issuer guarantees the return of funds with an additional interest rate. However, this doesn't mean there are no risks. The issuer may fail to pay as promised, particularly in cases like bankruptcy or default. An additional risk indicator is the offered interest rate: the higher it is, the higher the risks are likely to be.

ETF Funds

An ETF (Exchange-Traded Fund) can be thought of as a "piggy bank" of different assets. Investors have the option to purchase shares of these funds. ETFs are typically classified into categories and often broken down by assets such as stocks, commodities, bonds, and other investment instruments. In many ways, an ETF is a ready-made solution, as the fund takes care of asset selection, diversification, and monitoring, leaving the investor to simply choose the right fund.

Shares of ETF funds are freely traded on the market and can be bought or sold like any other stocks.

IPO (Initial Public Offering)

Earlier, we mentioned the concept of the primary market. An IPO is when a company first goes public and makes its shares available to a wide audience.

IPO stocks are generally riskier because the companies behind them are often not well-known. Statistically, after 5–10 years, less than 10% of newly listed companies remain successful. Despite the high risk, these stocks are usually priced low, offering an opportunity to diversify one's portfolio and buy stakes in numerous such companies.

The first days of trading such stocks are typically marked by high volatility. To stabilize the price, IPOs often use a rule that prevents selling for the next 3–6 months.

Real Estate

In addition to providing a sense of security, real estate has long served as a proven investment tool. In many countries where the stock market is less popular or difficult to access, real estate represents a primary means of investment.

Unlike a car, which begins to lose value as soon as it leaves the dealership (excluding rare, collectible, or vintage cars), real estate has the potential to appreciate in value, with the added benefit of generating rental income.

Real estate can be divided into two main categories: residential and commercial properties. As mentioned earlier, income from real estate can be generated in two ways: through capital appreciation and rental income. Commercial properties tend to have higher rental rates, and it’s easier to find tenants, especially for smaller spaces.

Real estate investments can be divided into two approaches:

1. Direct Investments: This is straightforward—purchasing property for profit. It requires active involvement and may include periods of low liquidity.
2. Indirect Investments: As we’ve discussed with ETFs, assets within these funds can vary, including real estate. For real estate, these funds are called REITs (Real Estate Investment Trusts).

Land Investments

Investing in land is an alternative to purchasing real estate. Land is a finite resource that will always be in demand. Modern urbanization processes and population growth further increase its value. Similar to real estate, there are two approaches to land investments: direct and indirect.

Startups or Venture Investments

You’ve likely heard stories about great companies that started in a garage or basement. These companies are called startups, and venture investors seek out companies with potential for growth. This type of investment is beneficial to both parties: the founders of such companies may have an interesting idea and the means to develop it, but they lack the capital to scale or bring it to market. On the other hand, investors have the resources to help bring the idea to fruition and scale the business.

The risk for the investor lies in the inability to fully assess the potential of the project, often making decisions based on intuition and faith rather than purely financial calculations. Venture capital investments are considered long-term.

Cryptocurrency

Cryptocurrency is a virtual digital currency secured by cryptography. Most existing cryptocurrencies operate on blockchain technology and decentralized networks. The main catalyst for the popularity of the cryptocurrency market was Bitcoin, which was introduced in 2009 as the first functioning cryptocurrency. However, it had predecessors, such as DigiCash, E-gold, B-money, and Bit Gold, that laid the foundation for Bitcoin's creation.

The cryptocurrency market is relatively young compared to other financial markets, with a capitalization of only $2.1 trillion as of August 29, 2024. In comparison, the stock market's capitalization stands at $46.2 trillion, making the cryptocurrency market relatively small. This can lead to manipulation by players with large capital, as they have the ability to control supply and demand for their benefit. Additional risks, although not all view them as such, include the lack of regulation and the absence of backing by tangible assets.

Precious Metals

Metals such as gold, silver, platinum, and rare minerals like rubies, emeralds, and diamonds have long served as universal exchange mediums, and sometimes as payment. A simple example is gold, which still ensures financial security and stability for central banks. Since these assets are finite, their value tends to increase over time.

Collectible Items

This category includes rare items, works of art, and collectible objects. The market for these assets is not for beginners, as it requires not only experience but also substantial capital.

Investing is an excellent tool for growing capital, but it’s important to be aware of the associated risks and devote the necessary time and attention. There are numerous sectors with varying levels of risk and barriers to entry, allowing investors to choose the one that aligns best with their preferences and goals.