Welcome to Ameritrade Plus University
  Basics of investing
Top 10 things
The details:

Good, bad & ugly

Stock movers

Bonding with bonds

Fund fundamentals

The hidden peril
Take the test
  Setting priorities
  Making a budget
  Basics of banking
  Basics of investing
  Investing in stocks
  Investing in bonds
  Buying a home
  Investing in mutual funds
  Controlling debt
  Employee stock options
  Saving for college
  Kids and money
  Planning for retirement
  Investing in IPOs
  Asset allocation
  Hiring financial help
  Health insurance
  Buying a car
  Home insurance
  Life insurance
  Futures and options
  Family law
  Estate planning
  Auto insurance

|> About Money 101

investing 101

  Top 10 things to know
Here is an overview of the most important points of this lesson. For more discussion, click any section of The Details at the upper left (calculators are marked with a ). Or, click "Take the Test" to jump directly to the quiz.

1. Over the long term, stocks have historically outperformed all other investments.
From 1926 to 1999, the stock market returned an average annual 11.4 percent gain. The next best performing asset class, bonds, returned 5.1 percent.

2. Over the short term, stocks can be hazardous to your financial health.
If you thought the Dow's 554-point drop on Oct. 28, 1997 was rough, consider the 508-point drop 10 years earlier, on Oct. 19, 1987. The 1997 decline was a mere 7.2 percent, while the 1987 crash -- the worst one-day drop in stock market history -- chopped 22.6 percent off the value of stocks in a mere six-and-a-half hour trading day.

3. Risky investments generally pay more than safe ones.
Investors demand a higher rate of return for taking greater risks. That's one reason that stocks, which are perceived as riskier than bonds, tend to return more than bonds. It also explains why long-term bonds pay more than short-term bonds. The longer investors have to wait for their final payoff on the bond, the greater the chance that something will intervene to erode the investment's value.

4. The biggest single determinant of stock prices is earnings.
Over the short term, stock prices fluctuate based on everything from interest rates to investor sentiment to the weather. But over the long term, what matters is earnings. If a stock's earnings rise substantially over the course of 10 years, so will its share price.

5. A bad year for bonds looks like a day at the beach for stocks.
In 1994, the worst year for bonds in recent history, intermediate term Treasury securities fell just 1.8 percent, and the following year they bounced back 14.4 percent. By comparison, in the 1973-74 crash, the Dow Jones industrial average fell 44 percent. It didn't return to its old highs for more than three years or push significantly *above* the old highs for more than 10 years!

6. Rising interest rates are bad for bonds.
When interest rates go up, bond prices fall. Why? Because bond buyers won't pay as much for an existing bond with a fixed interest rate of 6 percent as they will for a new one that is paying, say, 7 percent or more. Conversely, when interest rates fall, bond prices go up in lockstep fashion. And the effect is strongest on bonds with the longest term, or time to maturity. That is, long-term bonds get hit harder than short-term bonds when rates climb, and gain the most when rates fall.

7. Inflation may be the biggest threat to your long-term investments.
While a stock market crash can knock the stuffing out of your stock investments, so far -- knock on wood -- the market has always bounced back and gone on to new heights. However, inflation, which has historically stripped 3.2 percent a year off the value of your money, rarely gives back what it takes away. That's why it's important to put your retirement investments where they'll earn the highest long-term returns.

8. U.S. Treasury bonds are as close to a sure thing as an investor can get.
The conventional wisdom is that the U.S. Government is unlikely ever to default on its bonds -- partly because the American economy has historically been fairly strong and partly because the government can always print more money to pay them off if need be. As a result, the interest rate of Treasuries is considered a risk-free rate, and the yield of every other kind of fixed-income investment is higher in proportion to how much more risky that investment is perceived to be. A word of caution, though: Even the U.S. Government is not powerful enough to overrule the laws of economics, and if the government ever did get desperate enough to print lots of extra cash to pay off bonds, that would generate soaring inflation and make the bonds -- paid-off though they may be -- worth less than investors expected.

9. A diversified portfolio is less risky than a portfolio that is concentrated in one or a few investments.
Diversifying -- that is, spreading your money among a number of different types of investments -- lessens your risk because even if some of your holdings go down, others go up, or vice versa. On the flip side, a diversified portfolio is unlikely to outperform the market by a big margin for exactly the same reason.

10. Index mutual funds often outperform actively managed funds.
In an index fund, the manager sets up his portfolio to mirror a market index -- such as Standard & Poor's 500-stock index -- rather than actively picking which stocks to purchase. And by the strange math of mutual funds, average is often enough to beat the majority of competitors among actively managed funds. One reason: Few actively managed funds can consistently outperform the market by enough to cover the cost of their generally higher trading fees.

Next: The good, bad and ugly

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