Personal Finance Saving and Investing Short Answer Questions
Assume you earn 100,000 a year. If you wanted to create an emergency fund for 3 months, and you follow the 80/20 rule exactly, how big would your emergency fund be?
$26,666.67
Describe what a brokerage account is and what it allows you to do.
A brokerage account is a specific type of account that allows you to purchase investments. You can open and fund a brokerage account with an investment company or brokerage firm, then use the money you've deposited to buy investments.
Describe how the asset allocation in a target date fund change from when you are to young to when you are near retirement.
A mix of stocks, bonds and cash, for example — changes over time as you get closer to the "target date" year in the fund's name. As you near retirement, your fund "glides" from being growth-oriented to being more conservative.
What is an index? Name three well-known indexes. Why do most passive investments use an index as a target?
A stock index or stock market index is a measurement of a section of the stock market. The three most popular are the S&P 500, Dow Jones Industrial Average, and Nasdaq Composite. Passive investments use an index as a target because indexes are like an average.
What are Target Date Funds and how do they work?
A target date fund is a mutual fund that's intended to provide the ideal asset allocation for someone who plans to retire in a given year. For example, if you plan to retire sometime around the year 2040, you'd pick a 2040 target date fund
What are Index Funds? What are ETFs? How are they different?
An index fund is a mutual fund or exchange-traded fund designed to follow certain preset rules so that the fund can track a specified basket of underlying investments. An exchange-traded fund is an investment fund traded on stock exchanges, much like stocks. An ETF holds assets such as stocks, commodities, or bonds and generally operates with an arbitrage mechanism designed to keep it trading close to its net asset value, although deviations can occasionally occur.
What is an Individual Retirement Account (IRA)? What is the major difference between a Roth IRA and a traditional IRA?
An individual retirement account in the United States is a form of "individual retirement plan", provided by many financial institutions, that provides tax advantages for retirement savings. The biggest difference between a Roth and a traditional IRA is how and when you get a tax break: The tax advantage of a traditional IRA is that your contributions are tax-deductible in the year they are made. The tax advantage of a Roth IRA is that your withdrawals in retirement are not taxed.
What are equities? What are securities?
Equities are stocks - shares in a company. If you buy stocks, you're buying equities. You may also get "equity" when you join a new company as an employee. That means you're a partial owner, or can be, of shares in your company. Because equities don't pay a fixed interest rate, they don't offer guaranteed income. In other words, with equities comes risk. A simple definition of a security is any proof of ownership or debt that has been assigned a value and may be sold. (Today, evidence of ownership is likely to be a computer file, while once it was a written piece of paper.) For the holder, a security represents an investment as an owner, creditor or rights to ownership on which the person hopes to gain profit. Examples are stocks, bonds and options.
What is one reason for why human beings sometimes make irrational investing decisions?
Human beings sometimes make irrational investing decisions for a few reasons, sometimes people are very desperate to make money in a short amount of time, some people will invest in something because they feel it will benefit them greatly without much other information, or sometimes people will invest because they feel peer pressured to do it, but don't know much about investing
What are the consequences of keeping your emergency fund in a savings account? What are some beneficial alternatives?
If you skimp on your emergency fund because you have investments to fall back on, you risk taking losses that could be tough to recover from. Some beneficial alternatives are MMA's, CD's, High-Yield bank accounts, or Roth IRA's
Explain how investing in a mutual fund or index fund help you diversify your investments.
In summary, a mutual fund allows for diversification between many different stocks while also allowing for diversification between various sectors, styles, etc. Mutual funds can also invest in other assets, such as bonds, cash, or commodities like gold and other precious metals.
How can you make money from an index fund if some of the assets in it actually lose money?
Index Funds and Potential Losses Most index funds attempt to mirror some large basket or index of stocks, such as the S&P 500, by simply buying and holding identical weights of each stock as the index itself.
Why do investment/management fees matter so much over a long period of time?
Investment/management fees matter over a long period of time because the fee will start to build up a lot over a long time.
What is the 'Rule of 72' and how does it work?
Let's say you buy a bond and are fortunate enough to earn 5% tax-free. Using the "Rule of 72" we take 72 and divide it by 5. The result is 14.4. That means it takes 14.4 years to double your money if you invest your money at 5% (and reinvest the income). If you invest your money at 10%, guess how long it takes to double? If you said 7.2 years - we have a Bingo! You are right.
What are Bonds? Explain them as you would to someone who has never heard of them?
Bonds are a loan that you can trade, buy, and sell
Rank the following in terms of highest actual return on average (from lowest to highest): Actively managed mutual funds Certificates of Deposit Bonds Passively managed mutual funds Money Market Account Savings Account Checking account
Checking account, savings account, MMA, CD, Bonds, Actively managed mutual funds, passively managed mutual funds
What are Robo-Advisors? What are the benefits and drawbacks of using them to invest?
Robo-advisors or robo-advisers are a class of financial adviser that provide financial advice or Investment management online with moderate to minimal human intervention. They provide digital financial advice based on mathematical rules or algorithms. Robo-advisors—automated investment services aimed at ordinary investors—are an increasingly popular way to get access to the markets. On the plus side, robo-advisors are very low-cost and often have no minimum balance requirements. They also tend to follow optimized indexed strategies that are best suited for most investors. On the downside, robo-advisors do not offer many options for investor flexibility, they tend to throw mud in the face of traditional advisory services, and there is a lack of human interaction.
Explain how compound interest is different than simple interest.
Simple interest is based on the principal amount of a loan or deposit, while compound interest is based on the principal amount and the interest that accumulates on it in every period. Since simple interest is calculated only on the principal amount of a loan or deposit, it's easier to determine than compound interest.
What is Social Security and how does it work? Is it a good decision to rely solely on Social Security in retirement? Explain.
Social Security works by pooling mandatory contributions from workers into a large pot and then paying out benefits to those who are eligible for them. When you work, you pay into the system by having a portion of your earnings taxed and earmarked for Social Security. It's not recommended to rely solely on social security benefits in retirement, but it can be done.
What is a stock? And what are the issues with picking and investing in individual stocks?
The stock of a corporation is all of the shares into which ownership of the corporation is divided. An issue with picking and investing in individual stocks could be an investor experiencing losses due to factors affecting the overall performance of financial markets. Stock market bubbles and crashes are good examples of heightened market risk. You can't eliminate market risk, also called systematic risk, through diversification. You can, however, hedge against market risk
Explain why trying to "time the market" is not an ideal investing strategy.
Timing the market is not an ideal investing strategy because betting or gambling is never 100% safe, anything could change in an instant and you can not predict what will happen everytime.
