Saving and Investing

Make your money work for you

Pay Yourself First

Save this each week

At % Interest In 10 years you will have

$7.00 5% $4,720

$14.00 5% $9,440

$21.00 5% $14,160

$28.00 5% $18,880

$35.00 5% $23,600

Can You Believe…

49% of Teens P.Y.F.

79% of Teens use savings/checking accounts

5% use certificates of deposits

33% of Teens seek advice on investment

51% of Teens who invest in the stock market are Guys , 29% are girls

42% of Teens save money for college, 30% save for car

Time Value of Money

Relationship between time, money, and rate of return (interest)

Earned interest-payment received for allowing a financial institution/corporation to use your money

How to meet financial goals?

1. Time- More time to save, more money you will have

2. Money- More you save, more you will have

3. Rate of interest- Higher rate you earn, more money you will have

InflationIf $2 is left in your room for 2 years, it is worth $1.75 at the end of the 2 years due to inflation

Inflation: the prices of goods & services increasing over time.

Examples: In 1994, candy bars never cost more than $0.50. Now they cost $1.00Gas used to cost $0.87 a gallon in 1994 and now???

InflationU.S. inflation has increased .5% to over 18% in a year; the average is 3-4%

Inflation calculator

Taxes- drain on savings/investmentsIncome- federal/ state gov’t collect shareTaxed on job income, savings interest,Selling stocks/bonds.

You pay on nearly all earnings you receive

Risk

• Even lenders face risk

• Inflation- big threat to investment that only pays interest but that you are not adding to.

• No risk free investment

• Research investment, then invest

1st decision in investment? Owner or Lender?

Traditional SavingsU.S. Savings BondsCertificates of deposits

Lender

StocksStockholder owns portion of companyHistorically, Owners outperformed lenders

Owner

Income Investments-lendersSavings account = Low risk, low interest

U.S. Savings Bonds = Gov’t pays cash to investors in the form of interest. Set time period, Higher interest rate than savings. NPR Report on Savings Bonds

Certificate of Deposit = Loans to Banks/ credit unions. 3 months, 6 months, 1 year ( Longer the time, higher the interest) Slightly higher than savings bonds.

Money Market = Offered through banks/credit unions. Work like checking accounts. Can take money out with no penalty, but higher investment is needed.

Corporate/Gov’t Bonds = Highest interest rate. Gov’t safer, time periods can be 2 months to 30 years. Longer time period, the higher the interest rate

Income Investments-Owners

Stocks represent ownership in company

Buy low- sell high

Capital Gain- difference between purchase price and selling price (taxable)

Real Estate

Collectibles

Mutual Funds-pools money from several investors and purchases stocks. Uses a fund manager who makes buy/sell decisions. Offers diversification

Choosing a Savings Account

Factors that determine the dollar yield on an account:

Interest rate ( also called rate of return, or annual yield)

All money earned comes from this factor The following factors reduce money earned

and can even turn it into a loss: Fees, charges, and penalties Usually based on minimum balance

requirements, or transaction fees

If you invest $1000 each year($19.20 per week)Interest Rate

5 yrs 10 yrs 15 yrs 20 yrs

5% $5,525 $12,578 $21,578 $33,065

6% $5,637 $13,181 $23,276 $36,786

7% $5,751 $13,816 $25,129 $40,995

8% $5,867 $14,487 $27,152 $45,762

9% $5,985 $15,193 $29,361 $51,160

10% $6,105 $15,937 $31,772 $57,257

11% $6,228 $16,722 $34,405 $64,203

12% $6,353 $17,548 $37,279 $75,052

Savings VS Investment

Difference = time

Savings- set aside for short-term goals

Savings is safe & earns small amount of interest

Invest- set aside for future income, benefit, or profit

Invest- no guarantee, in it for long haul, opportunity to make more money than savings

Types of Savings Accounts

Passbook AccountDepositor receives a booklet in which

deposits, withdrawals, and interest are recorded.

Compare your interest rates between banks and credit unions

Funds are easily accessible (liquid)

Statement Accounts

Basically the same as a passbook account except depositor receives monthly statements instead of a passbook

Accounts are accessible through ATM’sInterest rates are the same as a

passbook accountFunds are easily accessible (liquid)

Interest Earning Checking AccountsCombines benefits of checking and

savingsDepositor earns interest on any unused

money in his/her account

Money Market Deposit Accounts

Checking and savings accountInterest rate paid built on a complex

structure that varies with size of balance and current level of market interest rates

Can access your money from an ATM, a teller, or by writing up to three checks a month

Benefits/ TradeOffs

Immediate access to your moneyAverage yield (rate of return) higher

than regular savings accounts

Usually requires a minimum balance of $1,000-$2500

Limited number of checks can be written each month

Certificates of Deposit (CD)

Bank pays a fixed amount of interest for a fixed amount of time

This is a great way to diversify your investments

Benefits/ Trade Offs

No riskSimpleNo feesOffers higher interest rates than savings

accounts

Restricted access to your money (not liquid)

Withdrawal penalty if cashed before expiration date (penalty might be higher than the interest earned

Types of CD’s Traditional--Deposit a fixed amount of money

for a specific term and receive a predetermined interest rate. Cash out at the end of the term, or roll over for another term.

Rising Rate/Bump Up CD- with higher rates at various intervals, such as every six months

Stock-indexed/Brokerage CD’s Callable CD’s- with higher rates and long-

term maturities, as high as 10-15 years. However, the bank may “call” the account back after a stipulated period, such as one or two years, if interest rates drop.

Types of CD’s

Global CD- combine higher interest with a hedge on future changes in the dollar compared to other currencies. Hedge is an investment made with the intention of minimizing the impact of adverse movements in interest rates or securities pricess

Promotional CD’s- attempt to attract savers with gifts or special rates.

Value of Money

Changes over time.

When Money is working for you, it grows in value or compounds.

Compounding interest-idea of earning interest on interest

Simple vs Compound Interest

Simple Interest Calculation: Dollar Amount x Interest rate x Length of Time

(in years) = Amount earned $100 in a savings account that paid 6%

simple interest, during the first year you would earn $6 in interest

$100 x .06 x 1 =6 At the end of 2 years you would have earned

$12.00 The account would continue to grow at a rate

of $6 per year, despite the accumulated interest

Compounded Interest

Interest is paid on original amount of deposit, plus any interest earned.

(Original $ amount + Earned Interest) x Interest Rate x Length of Time = Amount Earned

$100 in savings that pay 6% interest compounded annually, the first year you would earn $6

$100 x .06 x 1=6 $100 + 6 = $106

Compounded Interest

With compounded interest, the second year you would earn $6.36 in interest

$106 x .06 x 1 -$6.36$106 + $6.36 = $112.36You want to put your money in accounts

that compound more often

Watch your money growYour monthly deposit of $100.00 for 10 years with an interest rate 0f 6.500% compounded monthly with a starting balance of $1,000

Year Balance 6 $23531.39

1 $11906.12 7 $26343.73

2 $13939.90 8 $29344.42

3 $16109.88 9 $32546.08

4 $18425.20 10 $35962.15

5 $20895.57 Final Balance

$35962.15

Rule of 72

To determine about how many years it will take to double your money:

72 divided by Interest rate =Years to double your investment

Rule of 72

To determine the interest rate that will double your money in a set number of years:

72 divided by years to double investment = interest rate required

Rule of 72

72 divided by 1 % interest 72 years

72 divided by 3 % interest 24 years

72 divided by 6 % interest 12 years

72 divided by 9 % interest 8 years

72 divided by 12 % interest 6 years

72 divided by 15 % interest 4 yrs 10 months

Rule of 72

3-H

72Interest Rate

= Years Needed toDouble Investment

72 Interest RateRequired

=Years Needed toDouble Investment

Let’s invest only $5.00 each month and see how important it is for you to get a little bit higher return on your investment. The following table illustrates what 3% more interest will do for you

Year 1% 3% 6% 9% 12% 15%

10 631 699 816 955 1120 1315

20 1328 1638 2278 3217 4599 6635

30 2098 2901 4896 8572 15404 28159

40 2949 4597 9585 21248 48965 115233

50 3889 6877 17981 51258 153199 467498

60 4927 9941 33018 122301 476933 1892606

70 6073 14059 59947 290487 1482403 7657963

Time is on your side

Most people do not start their investment portfolio until it’s too late

It does not take a lot of money to build financial independence if you start investing early.

The importance of time can not be underestimated. It’s one of the most important elements in your financial plan. Most people fail to use time to their advantage because they allow procrastination to erode their savings plan

Invest Early

Suppose you are 25 and have a goal of $100,000 cash at retirement age. You could accomplish this by saving only $10.22 per month at 12%. I know it seems amazing but it is true. And it’s also true that anyone can mange to save $10.22 per month, no matter what their income. But if you are 55 and have and have the same goal- $100,000 at 65 you must save $446.36 a month. 43 times as much as you would have needed monthly at 25.

Invest Early

Age 25 Save $10.22 monthly

Age 35 Save $32. 46 monthly (3 times more)

Age 45 Save $108.71 monthly(10 times more)

Age 55 Save $446.36 monthly(43 times more)

Savings Accounts

Balance requirements Some accounts require a certain balance

before paying any interest. On Money market accounts, most banks will

pay different interest rates for different size balances (higher balance earns a higher rate)

Balance calculation method Most calculate daily. Some use average of all

daily balances.

Truth in Savings Act

The Truth in Savings Act requires financial institutions to disclose the following information on savings account plans they offer:

Fees on deposit accountsThe interest rateOther terms and conditionsThe annual percent yield (APY)

APY

Annual percentage yield which is the percentage rate expressing the total amount of interest that would be received on a $100 deposit based on the annual rate and frequency of compounding for a 365 day year, rather than 360, 366 or some other number. This law eliminates confusion caused by the more than eight million variations of interest calculation methods previously used by financial institututions.

Bonds

A bond is an IOU certifying that you loaned money to a government or corporation and outlining the terms of repayment

A buyer may purchase a bond at a discount. The bond has a fixed interest rate for a fixed period of time. When the time is up, the bond is said to have “matured” and the buyer may redeem the bond for the full face value

Types of Bonds

Corporate- sold by private companies to raise money for the corporation

If the company goes bankrupt, bondholders have first claim to the assets before stockholders (safer risk)

Types of Bonds

MunicipalIssued by any non federal governmentInterest paid comes from taxes or from

revenues from special projects. Earned interest is exempt from federal income tax

Types of Bonds

Federal GovernmentThe safest investment you can make.

Even if US government goes bankrupt, they are obligated to repay bonds.

Bond Basics

Accrued Interest- Interest deemed to be earned on a security but not yet paid to the investor

Ask price- price being sought for the security by the seller

Bid- the price at which a buyer offers to purchase a security

Callable bond- bonds which are redeemable by the issuer prior to the maturity date at a specified price at or above par

Bond Basics

Call premium: a dollar amount, usually stated as a percent of the principal amount call, paid by the issuer as a penalty for the exercise of a call provision

Bond Basics Default: failure to pay principal or interest

when due. Federal Funds Rate: The interest rate

charged by banks on loans to other banks. The Federal Reserve’s ability to add or withdraw reserved from the banking system gives it close control over this rate.

Bonds

Bond ratings are like grades. AAA is the highest. D is the lowest.

Investment grade bonds: safe bonds because the issuers are stable and dependable.

Junk Bonds: a debt obligation with a Ba or BB or lower, generally paying interest above the return on more highly rated bonds.

Stocks

Stock represents ownership of a corporation. Stockholders own a share of the company and are entitled to a share of the profits as well as a vote in how the company is run

Company profits may be divided among shareholders in the form of dividends. Dividends are usually paid quarterly.

Larger profits can be made through an increase in the value of the stock on the open market.

Stocks advantages/disadvantages

If the market value goes up, the gain can be considerable.

Money is easily accessible (liquid)

If the market goes down, the loss can be considerable

Selecting and managing stock often requires study and the help of a good brokerage firm

Penny Stock

In the U.S., a penny stock is a common stock that trades for less than $5 a share and are traded over the counter (OTC) through quotation services such as the OTCBB or the Pink Sheets. Although a penny stock is said to be "thinly traded," share volumes traded daily can be in the hundreds of millions for a sub-penny stock. Legitimate information on penny stock companies can be difficult to find and a stock can be easily manipulated.

Treasury Bills (t-bills)

Sold in terms ranging from a few days to 52 weeks. Bills are typically sold at a discount (you might pay $990 for a $1,000 bill). When the bill matures, you would be paid $1,000. The difference between the purchase price and face value is interest.

Secure, short term investment

Mutual Funds

Professionally managed portfolios made up of stocks, bonds, and other investments

Individuals buy shares, and fund uses money to purchase stocks, bonds, and other investments

Profits returned to shareholders monthly, quarterly, or semi-annually in the form of dividends

Advantage is that it allows small investors to take advantage of professional account management and diversification normally only available to large investors

Types of Mutual Funds

Balanced Fund- includes a variety of stocks and bonds

Global Bond Fund- has corporate bonds of companies from around the world

Global Stock Fund has stocks from companies in many parts of the world

Growth Fund emphasizes companies that are expected to increase in value; also has higher risk

Types of Mutual Funds

Income Fund- features stock and bonds with high dividends and interest

Industry Fund- invests in stocks of companies in a single industry (such as technology, health care, banking)

Municipal Bond Fund- loaning state and local governments money for returns

Regional Stock Fund- involves stocks of companies from one georgraphic region of the world (such as Asia, Latin America etc)

REAL ESTATE

Ways to invest in real estate:Buy a house, live in it, and sell it at a

profitBuy income property (such as an

apartment house or a commercial building) and rent it

Buy land and hold it until it rises in value

Real Estate Advantages/ Disadv.

Excellent protection against inflationCan be difficult to convert into cashA specialized type of investment

requiring study and knowledge of business

Capital Gains

Profits from the sale of a capital asset such as stocks, bonds, or real estate. These profits are tax-deferred; you do not have to pay the tax on these profits until the asset is sold. Long-term capital gains occur on investments held more than 12 months. Short term capital gains occur on investments held less than 12 months

Tax Deferred SavingsAllows to postpone taxes while building

investmentSaving for future- part of financial

planningIRA (individual retirement account)401k and 403b through employersWithdrawals from accounts planned for

retirement -tax brackets are lowerLong- Term investment Taxes/penalties on money withdrawn

before age 59 1/2

RETIREMENT PLANS

Plans that help individuals set aside money to be used after they retire

Federal income tax not immediately due on money put into a retirement account, or on the interest it makes

Income tax paid when money is withdrawn Penalty charges apply if money is withdrawn

before retirement age, except under certain circumstances

Income after retirement is usually lower, so tax rate is lower

Types of Retirement Plans

IRA (Individual Retirement Account) Allows a person to contribute up to $5,000

earning per year. Contributions can be made in installments or in a lump sum

IRA Contribution Limits YEAR AGE 49 & BELOW AGE 50 + 2002-2004 $3,000 $3,500 2005 $4,000 $4,500 2006-2007 $4,000 $5,000 2008 $5,000 $6,000

ROTH IRA

While the $5,000 annual contribution to this plan is not tax deductible, the earnings on the account are tax-free after five years. The funds from the Roth IRA may be withdrawn after age 59 if the account owner is disabled, for educational expenses, or for te purchase of a first home

IRA vs Roth IRA

Tax deductible contributions (depending on income level)

Withdraws begin at age 59 1/2 and are mandatory by 70 1/2.

Taxes are paid on earnings when withdrawn from the IRA

Contributions are not tax deductibleNo Mandatory Distribution AgeAll earnings and principal are 100% tax

free if rules and regulations are followed

IRA vs Roth IRA

Funds can be used to purchase a variety of investments (stocks, bonds, certificates of deposits, etc.)

Available to everyone; no income restrictions All funds withdrawn (including principal contributions)

before 59 1/2 are subject to a 10% penalty (subject to exception).

Funds can be used to purchase a variety of investments (stocks, bonds, certificates of deposits, etc.)

Available only to single-filers making up to $95,000 or married couples making a combined maximum of $150,000 annually.

Principal contributions can be withdrawn any time without penalty (subject to some minimal conditions).

401 K

Allows a person to contribute to a savings plan from his or her pre-tax earnings, reducing the amount of tax that must be paid. Employer matches contributions up to a certain level

Keough Plan

Allows a self-employed person to set aside up to 15% of income to be able to participate in a type of a 401 K.

FinancialPlanningPyramid

PennyStock

Commo- dities

CollectiblesSpeculative Stock / Bonds /Mutual Funds

RealEstate

Blue-ChipCommonStock

GrowthMutual Funds

High-GradeConvertibleBonds

High-GradePreferredStock

BalancedMutual Funds

High-GradeCorporate Bondsor Mutual Funds

High-GradeMunicipal Bondsor Mutual Funds

Money MarketAccountsor Mutual Funds

Certificatesof Deposit

U.S. SavingsBonds

Insured Savings / Checking Accounts

TreasuryIssues

Highest RiskHighest Earnings

Lower RiskLower Earnings

3-J

NEFE High School Financial Planning ProgramUnit Three – Investing: Making Money Work for You

Diversification

Reduction of risk by spreading your dollar in different investments

Protect Yourself from Investment Fraud Become informed about investments and

industries before investing Talk with others who have made similar

investments Obtain information from state and federal

regulatory agencies Never buy over the phone without first

investigating the situation Avoid investment opportunities promising

large returns in a short time that seem “too good to be true”-they probably are…..

Common Frauds

Pyramid Schemes High risk penny stocks and fraudulent

securities Fraudulent Franchises and business

opportunities www.fraud.org www.sec.gov www.ftc.gov www.nasaa.org